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OVERSIGHT OF CIVIL AERONAUTICS BOARD 
PRACTICES AND PROCEDURES 



HEARINGS 

BEFORE THE 

SUBCOMMITTEE ON 
ADMINISTRATIVE PRACTICE AND PROCEDURE 

OF THE 

COMMITTEE ON THE JUDICIARY 
UNITED STATES SENATE 

NINETY-FOURTH CONGRESS 

FIRST SESSION 

ON 

OVERSIGHT OF CIVIL AERONAUTICS BOARD 

PRACTICES AND PROCEDURES 



VOLUME 1 



FEBRUARY 6, 14, 18, 19, 25, AND 26, 
MARCH 4 AND 21, 1975 



Printed for the use of the Committee on the Judiciary 




U.S. GOVERNMENT PRINTING OFFICE 
WASHINGTON : 1975 



WORTHEASTERN UNIVERSITY SCHOOL of LAW LIBRARY 



COMMITTEE ON THE JUDICIARY 

JAMES O. EASTLAND, Mississippi, Chairman 
JOHN L. McCLELLAN, Arkansas RO>L4N L. HRUSKA, Nebrasl^a 

PHILIP A. HART, Michigan HIRAM L. FONG, Hawaii 

EDWARD M. KENNEDY, Massachusetts HUGH SCOTT, Pennsylvania 
BIRCH BAYH, Indiana STROM THURMOND, South Carolina 

QUENTIN N. BURDICK, North DalvOta CHARLES McC. MATHIAS, Jr., Maryland 

ROBERT C. BYRD, West Virginia WILLIAM L. SCOTT, Virginia 

JOHN V. TUNNEY, California 
JAMES ABOUREZK, South Dakota 

Petee M. Stockett, Chief Counsel and Staff Director 



Subcommittee on Administrative Practice and Procedure 
EDWARD M. KENNEDY, Massachusetts, Chairman 

PHILIP A. HART, Michigan STROM THURMOND, South Carolina 

j BIRCH BAYH, Indiana CHARLES McC. MATHIAS, Jr., Maryland 

^ QUENTIN N. BURDICK, North Dakota HUGH SCOTT, Pennsylvania 

' JOHN V. TUNNEY, California 

Stephen G. Breyer, Special Counsel 

Thomas M. Susman, Chief Counsel 

Philip J. Bakes, Jr., Assistant Counsel 

Janet F. Alberghini, Staff Member 

Theresa A. Burt, Staff Member 

Caroline J. Croft, Research Assistant 

James F. Michie, Investigator 

James I. Campbell, Jr., Staff Member 

Geoffrey White, Staff Consultant 

Stephen L. Jones, Minority Counsel 

(n) 



^ 

o 



CONTENTS 

(See also List of Witnesses and Topical Index at the end of volume 3) 



OVERSIGHT OF CIVIL AERONAUTICS BOARD 
PRACTICES AND PROCEDURES 



Days of Hearings 

Feb. 6, 1975 OVERVIEW OF FEDERAL ECONOMIC REGULATION OF 
DOMESTIC AIR TRANSPORT 

Feb. 14, 1975 COMPARISON OF UNREGULATED INTRASTATE AIR- 
LINES WITH REGULATED INTERSTATE AIRLINES 

Feb. 18, 1975 CAB REGULATION OF ENTRY INTO DOMESTIC AIR 
ROUTES AND INTO THE DOMESTIC AIR TRANSPORT 
INDUSTRY 

Feb. 19, 1975 CAB'S HANDLING OF CONSUMERS. SMALL GROUPS, 
AND CHARTERS IN THE REGULATION OF DOMES- 
TIC AIR TRANSPORT 

Feb. 25, 1975 CAB REGULATIONS OF DOMESTIC AIR FARES . 

Feb. 26, 1975 GENERAL QUESTIONING OF THE CAB OFFICERS 

Mar 4, 1975 USES OF CAB'S AUTHORITY TO IMMUNIZE INTER- 
CARRIER AGREEMENTS FROM THE ANTITRUST 
LAWS 

Mar 21, 1975 INQUIRY INTO THE FAILURE OF THE CAB TO INVES- 
TIGATE FULLY CERTAIN VIOLATIONS OF THE FED- 
ERAL CAMPAIGN LAWS 



VOLUME 1 

Thursday, February 6, 1975 

TESTIMONY 

Page 

Barnum, John W., Acting Secretary, U.8. Department of Transportation.. 4 

Prepared statement 1^ 

Engman, Lewis, Chairman, Federal Trade Commission 22 

Prepared statement ^^ 

Kauper, Thomas E., Assistant Attorney General, Antitrust Division, U.S. 

Department of Justice ^'* 

Prepared statement 45 

Miller, James C, III, senior stafE economist, Council of Economic Ad- 
visers ■.- ^" 

Prepared statement of Gary L. Seevers, member. Council of Econom^c 

Advisers, and Mr. Miller ^^ 

Panel of economists : Merton J. Peck, professor of economics, Yale Uni- 
versity ; Roger G. Noll, professor of economics, California Institute of 
Technology; and Thomas G. Moore, senior fellow. The Hoover Institu- 
tion on War. Revolution, and Peace, Stanford University 68 

Prepared statement of Mr. Peck "^9 

Prepared statement of Mr. Moore 82 

Prepared statement of Mr. Noll 84 

Kahn. Alfred E., Chairman, New York State Public Service Commission— 87 

Prepared statement -,- ^^ 

James, George W.. senior vice president of economics and finance. Air 

Transport Association of America 99 

Prepared statement H^ 

(m) 



IV 

EXHIBITS 

Air Transport Association prepared exhibits : ^^^^ 

Example of connecting and thirougli-flight complex, eastbound 122 

Example of connecting and through-flight complex, westbound 123 

Monetary value of travel by air vs. other modes 124 

Dollar value of time savings due to air travel rather than other modes 

of travel, Birmingham, Ala., to Miami, Fla., 1970__ 124 

Average fare per passenger mile, domestic scheduled services, trunk air- 
lines (1938 dollars) 129 

Changes in air fares compared with other U.S. products and services-- 130 
Average fare per passenger mile (indexed to constant 1938 dollars)— 131 
Average air freight rates per ton mile, domestic operations, U.S. sched- 
uled airlines (1940 constant dollars) 132 

Distribution of trunk airlines scheduled coach fares, year ended Sept. 

30, 1974, 48-state data 133 

Income characteristics of adults who have flown on regular passenger 

airline 134 

1974 load factors, nonstop services — Boston-Detroit market 135 

Distribution of airline passenger traffic by number of city-pairs (year 

ended June 1974) — 136 

Percent of transported passengers who are not through or connecting, 

by flight distances (for city-pairs with nonstop service) 137 

ATA airline cost index, U.S. trunks and local service carriers, 3d quar- 
ter, 1974 138 

Air Transport Association, "The Consequences of Deregulation," (Apr. 25, 

1974) 139 

Flight/segment load-factor distribution, U.S. -certificated airlines, 48- 
state services, Aug. 1973 161 

U.S. scheduled airline 1973 routes (city-pairs) risking loss of service 
as a consequence of deregulation (in order from least to most 

unprofitable) 171 

Air Transport Association, letter from George James, senior vice president 
of economics and finance, to Senator Edward M. Kennedy, dated May 8, 

1975, replying to Senator Kennedy's letter of May 2, 1975 380 

Council of Economic Advisers, letter from Alan Greenspan, chairman, to 
Senator Edward M. Kennedy, dated May 1, 1975, evaluating the ATA 

study, "Consequence of Deregulation" 382 

Council on Wage and Price Stability, letter from Albert Rees, director, to 
Senator Edward M. Kennedy, dated May 1, 1975, evaluating the ATA 

study. "Consequences of Deregulation" 394 

Douglas, George W., professor of economics. University of Texas, prepared 

statement 437 

Drake, John W., professor of air transportation. School of Aeronautics and 
Astronautics, Purdue University, letter to Senator Edward M. Kennedy, 
dated May 15, 1975, evaluating the ATA study. "Consequences of Deregu- 
lation" 4J0 

Kennedy, Senator Edward M., letter to George W. James, senior vice presi- 
dent of economics and finance, Air Transport Association, dated Fel). 7. 

1975, requesting a study on the consequences of deregulation 139 

Kennedy, Senator Edward M., letter to George W. James, senior vice 
president of economics and finance. Air Transport Associatioyi, dated 
May 2, 1975. commenting on the ATA's "Consequences of Deregulation"- 379 
Kennedy, Senator Edward M., sample letter requesting independent eval- 
uations of the ATA study, "Consequences of Deregulation" 380 

Keeler, Theodore E., assistant professor of economics, Universitv of Cali- 
fornia at Berkeley, letter to Senator Edward M. Kennedy, dated June 4, 

1975, evaluating the ATA study, "Consequences of Deregulation" _' 421 

Peltzman. Sam. professor of business economics, University of Chicago, 
letter to Senator Edward M. Kennedy, dated May 5, 1975, evaluating the 
ATA study, "Consequences of Deregulation" 423 



Sherman, Roger, professor of economics, University of Virginia, letter to 

Senator Edward M. Kennedy, dated May 12, 1975, evaluating the ATA Pa&e 
study, "Consequences of Deregulation" 426 

Whinston, Andrew, professor of economics, management and computer sci- 
ence, letter to Senator Edward M. Kennedy, dated May 9, 1975, evaluat- 
ing the ATA study, "Consequences of Deregulation" 430 



Friday, February 14, 1975 

TESTIMONY 

Panel of California intrastate airlines : Lawrence A. Guske, assistant 
controller, Pacific Southtvcst Airlines; and Robert W. Clifford, presi- 
dent, Air California 444 

Prepared statement of Mr. Guske 449 

Prepared statement of Mr. Clifford 450 

Panel of economists : William A. Jordan, professor of managerial eco- 
nomics, York University ; and John R. Suuimerfield, president, Summer- 
field Associates 452 

Prepared statement of Dr. Jordan 464 

Prepared statement of Dr. Summerfield 487 

O'Melia, Richard J., Acting Chairman, Civil Aeronautics Board 494 

Prepared statement 498 

Panel of interstate airlines : Morton Ehrlich, vice president for planning 
and chief economist. Eastern Airlines; Randall Malin, vice president of 
market planning, American Airlines; and Morris Shipley, vice president 

of governmental affairs. Delta Air Lines 512 

Prepared statement of Dr. Ehrlich 519 

Prepared statement of Mr. Malin 521 

Prepared statement of Mr. Shipley 523 

Murphy, Charles, executive director, Texas Aeronautics Commission 525 

Prepared statement 529 

EXHIBITS 

American Airlines, prepared exhibits : 

Short-haul operating costs and earnings of American Airlines, Boston- 
Washington and New York-Washington routes 522 

Short-haul operating costs and earnings of American Airlines, Boston- 
Washington and New York-Washington, offering PSA-type service— 522 
Civil Aeronautics Board, prepared exhibits : 

Comparison of fare rates for CAB-regulated and non-CAB-regulated 

carriers in selected markets, Jan. 1975 502 

Domestic Passenger Fare Investigation — Phase 7 (excerpts), Apr. 

1971 502 

Domestic Passenger Fare Investigation — Phase 9 (excerpts), Mar. 

1974 503 

General Passenger Fare Investigation, Nov. 1960 (excerpts) 508 

Jordan, William A., prepared exhibits : 

PSA's coach fares compared with CAB-authorized 1st class fares 

for three major California city-pairs, 1949 467 

PSA's coach fares compared with CAB-authorized coach fares 

for three ma.1or California city-pairs, 1965 468 

PSA's coach fares compared with CAB-authorized coach fares 

for three major California city-pairs, Jan. 29, 1975 468 

Increases in coach fares from late 1969 to early 1975 ; PSA compared 

with CAB-authorized fares for three major California city-pairs 469 

Southwest's coach fares compared with CAB-authorized coach fares 

for three major Texas city-pairs, Nov. 15, 1974 471 

Comparison of PSA, CAB-authorized and Canadian coach fares, Los 

Angeles-San Francisco vs. Montreal-Toronto, June 1965 and Jan. 29, 

1975 473 

Comparison of competitive bid rates with CAB-authorized rates, cate- 
gory B international operations, Aug. 4, 1959 vs. Feb. 10, 1961 475 



VI 

Jordan, William A., prepared exhibits — Continued 

Average annual output per employe (PSA compared with total trunk Page 

carriers and Western Air Lines), 1965 480 

One-way coach prices for Dallas-Houston and Dallas-San Antonio 
service: Southwest Airlines, Braniff Airways, and Texas Interna- 
tional Airlines, June 1971-Dec. 1974 485 

Top 100 origin-destination city-pairs in order of passenger rank, CAB- 
certificated and California/Texas intrastate airlines (scheduled 

service, 1972) 486 

Summeriield, John R., prepared exhibits : 

Dollar cost saved by PSA due to exclusively intra-California service— 490 
Summerfield. John R., president, Summerheid Associates, letter to subcom- 
mittee, dated Feb. 28, 1975 : 

Response to the testimony of Dr. Jordan 490 

Response to tentative subcommittee staff memorandum concerning 

intrastate/interstate fare comparison 515 

Texas Aeronautics Commission, prepared exhibits : 

Southwest Airline service awakened sleeping air travel markets in 

Texas, 1971-1972 532 

Dallas-Houston market: average daily local passengers carried in 

each direction, by carrier, 1967-73 533 

Subcommittee staff, interstate/intrastate fare comparison : tentative staff 

conclusions 515 

Comparison of intrastate and interstate routes of similar distances, 
Feb. 1975 517 

Tuesday, February 18, 1975 

TESTIMONY 

Panel of airlines : William A. Hardenstine, senior vice president — sales, 
World Airways ; Raymond J. Rasenberger, counsel, North Central Air- 
lines ; Harvey J. Wexler, senior vice president, Continental Airlines ; 
Edwin I. Colodny, executive vice president, marketing and legal affairs, 
Allegheny Airlines; Andrew M. DeVoursney, group vice president, fi- 
nance and planning. United Air Lines; and Stuart G. Tipton, senior vice 

president. Federal affairs. Pan American World Airways 537 

Prepared statement of Mr. Hardenstine 565 

Prepared statement of Mr. Rasenberger 573 

Prepared statement of Mr. Wexler 580 

Prepared statement of Mr. Colodny 620 

Prepared statement of Mr. De Voursney 629 

Prepared statement of Mr. Tipton 637 

Civil Aeronautics Board : Richard J. O'Melia, Acting Chairman ; G. Joseph 

Minetti, Member, and Lee R West, Member 646 

Prepared statement of Mr. O'Melia 660 

Panel of government officials : Donald I. Baker, Deputy Assistant Attorney 
General, Antitrust Division, U.S. Department of Justice; and William 

A. Kutzke, Counsel, U.S. Department of Transportation 664 

Prepared statement of Mr. Baker 679 

Prepared statement of John W. Snow, Deputy Assistant Secretary for 
Policy, Plans, and International Affairs, U.S. Department of Trans- 
portation (submitted by Mr. Kutzke) 688 

Gagnon, James, chairman, ad hoc committee on air service. Airport 

Operators Council International 695 

Prepared statement 704 

EXHIBITS 

Allegheny Airlines prepared exhibits : 

50 percent of Allegheny's passengers are generated in only 11 percent 

of the city-pairs it serves 626 

29 percent of Allegheny's passengers on its Pittsburgh-Philadelphia 
nonstop flights come from other than the local market, July 
1974 627 

51 percent of Allegheny's passengers on its Chicago-Pittsburgh non- 
stop flights come from other than the local market, July 1974 628 



VII 

Airport Operators Council International, prepared exhibits : 

Flowchart of the CAB's route hearing process as proposed by the P^se 
CAB'S staff 699 

Samples of high-load factor operations, 1973 and 1974 725 

Profit leverage created by increased load factor 726 

Pacific Southwest Airlines' load factor history, 1967 to fiscal year 
1972 728 

Airport Operators Council International, letter from Donald G. Shay, 
president, to Senator Kennedy, dated March 4, 1975, clarifying the posi- 
tion of the Board of Directors of AOCI 720 

Civil Aeronautics Board, material inserted in the record for clarification : 
14 C.F.R. sec. 399.60 (1974), standards for determining priorities of 

hearing 650 

Bureau of Operating Rights, Service to Small Communities (March 

1972), excerpt 673 

Continental Airlines, prepared exhibits : 

Comparative U.S. and foreign coach fares 587 

Continental Airlines, James L. Mitchell, vice president for regulatory pro- 
ceedings, prepared statement (March 31, 1975), in response to the testi- 
mony of Dr. Jordan on February 14, 1975 587 

California intrastate air service, 1946-65, by carrier and by city 593 

Pacific Southwest Airlines' route structure, June 1965 594 

Pacific Southwest Airlines and Air California, route structure, 1975- _ 595 
Relationship of international to system revenues and profit-selected 

trunks, 1973 600 

Continental Airlines, prepared statement in response to the prepared 

statement of Dr. Jordan of April 21, 1975 617 

International Air Transport Association. Knut Hammarskjold, director 
general, address to the world conference on tourism and air transport 

(Feb. 10, 1975), excerpts 754 

Jordan, William A., professor of managerial economics, York University, 
prepared statement (April 21, 1975) in response to the prepared state- 
ment by Mr. Mitchell of Continental Airlines (March 31, 1975) 601 

Maryland Department of Transportation, Robert J. Aaronson, State Avia- 
tion Administrator, prepared statement 730 

Dulles International Airport's primary and secondary service areas 

within metropolitan Baltimore/Washington 736 

Estimated 1975 Baltimore/Washington passengers using Baltimore/ 
Washington airport under adequate nonstop service conditions 

(top 50 markets) 739 

Used and unused nonstop authority in Baltimore/Washington's top 

50 markets 740 

Puerto Rico, Rafael Hernandez-Colon, Governor, prepared statement 743 

New York-San Juan market, load factors, 1968-74 747 

Increases in lowest regular New York-San Juan fares and proposed 

1975 fares 748 

Comparison of New York-San Juan fares with other vacation markets, 

Feb. 1975 749 

Comparison of New York-San Juan yields with other vacation mar- 
kets, Feb. 1975 750 

Airline unadjusted results, mainland-Puerto Rico/Virgin Islands mar- 
kets, year ended June 30. 1974 751 

Pan American's own projections indicate that passenger fare increases 
ranging from 27 to 67 percent would be required at Pan American's 
high expense and investment levels to achieve a 12 percent rate of 

return 752 

Comparative indirect expen.ses levels, fiscal 1974 vs. calendar 1971 753 

United Air Lines, letter from Andrew De Voursney, group president of 
finance and planning, to Senator Kennedy, dated Feb. 28, 1975, concern- 
ing the effect of deregulation upon small-town service 635 

United Air Lines, letter from William R. Nesbit, corporate economist, to 
the subcommittee, dated Apr. 29, 1975, concerning the effect of dereg- 
ulation upon small-town service 636 



U.S. Department of Transportation, letter from John W. Snow, Acting 
Assistant Secretary for Congressional and Intergovernmental affairs, to 
Senator Kennedy, dated Apr. 25, 1975, responding to several followup Page 

questions by Senators Kennedy and Thurmond 690 

Distribution of travelers along the California coast and the Northeast 

coast, by mode of travel, 1968 and 1970 694 

Virginia Aviation Transportation and Airports Study Commission, letter 
from Paul W. Manns, chairman, to Senator Kennedy, dated Febru- 
ary 11, 1975 755 

World Airways, prepared exhibits : 

CAB filing fees for 12 months ended June 30, 1974 566 

Documents necessary for a single travel group charter flight 566 

Summary of World's 1967 proposal for a $75 transcontinental service— 567 

Instructions for travel group charter application 571 

VOLUME 2 

Wednesday, February 19, 1975 

TESTIMONY 

Panel of consumers' groups: Patricia Kennedy, traffic analyst. Aviation 
Consumer Action Project ; Jens Jurgen Wegscheider, Travel Informa- 
tion Bureau; and Mark Silbergeld, attorney. Consumers Union 761 

Prepared statement of Ms. Kennedy 832 

Prepared statement of Mr. Wegscheider 840 

Prepared statement of Mr. Silbergeld 848 

Panel of travel clubs and charter carriers : Edward J. McDevitt, Air Club 
International; G. F. Steedman Hinckley, chaii-man and chief executive 
oflScer, Overseas National Airways ; and Robert Beckman, attorney. Air 

Europe International -- _" 866 

Prepared statement of Mr. McDevitt 949 

Prepared statement of Mr. Hinckley 951 

Prepared statement of Mr. Beckman 1052 

Yohe, Jack, Director, Office of the Consumer Advocate, Civil Aeronautics 

Board 1053 

Prepared statement 1119 

EXHIBITS 

Air Club International, prepared exhibits : 

Order 74-9-70 (1970) — 869 

American Airlines, Randall Malin, vice president, marketing planning, 
letter to the subcommittee, dated Apr. 4, 1975, concerning inter alia cross 

subsidy 1141 

Aviation Consumer Action Project, prepared exhibits : 

Consumer information pamphlets 764 

Passenger rules tariff, No. 380, failure to operate on schedule or 

failure to carry i 772 

Examples of a major airline's advertisement campaign 792 

CAB Order 72-11-106 (1972), ACAP vs. Trans World Airlines 804 

CAB Order 73-6-9 (1973) 811 

Letter from Reuben B. Robertson III, and Martin M. Temkin, at- 
torneys from Herbert A. Goldberg, to CAB, dated Jan. 21, 1974, 
reouesting final decision in the case of American Airlines vs. 

Herbert A. Goldberg -- 826 

"How to Join Airline Club : 8- Year Wait," Wa.shington Star-News, 

Jan. 27, 1974 - 829 

Consumers Union, prepared exhibits : 

"How Airlines Overcharge on Connecting Flights," Consumers Re- 
ports, May 1972 — 850 

"CAB Tallies Complaints Against U.S. Airlines," Consumers Reports, 

Aug. 1972 — 855 

" 'Discount' Air Fares : A Maze of Overcharges," Consumers Reports, 

Oct. 1972 — 856 

"CAB Speaks Softlv But Wields No Stick," Consumers Reports, Nov. 
1972 861 



IX 

Consumers Union, prepared exhibits — Continued 

"A Small Step Toward Fairer Air Fares," Consumers Reports, Jan. I'aee 
1973 861 

"Still Searching for a Correct Air Fare," Consumers Reports, Feb. 
1973 861 

"Meet the New Elite: Airline Club Members," Consumers Reiwrts, 
Apr. 1973 863 

"CAB Cites Airlines for Overcharging," Consumers Reports, June 1973_ 864 
"Most Airlines in Same Place on Scorecard of Complaints," Con- 
sumers Reports, Oct. 1973 865 

Cathy, Henry D., Jr., Director of Transportation, New Castle, Delaware, 
and William H. Comer, Sr., Airport Manager, Greater Wilmington Air- 
port, prepared statement 1129 

Civil Aeronautics Board, prepared exhibits : 

Jaclv Yohe, Office of Consumer Affair.s, Consumer Complaint Survey 

(1973) - 1063 

Jack Yohe, Director, Office Affairs, "A White Paper on Airlines' 

Handling of Baggage Claims" (Oct. 1973) 1073 

CAB Order E-24198 (1966), Baggage Liahility Rules Case 1103 

CAB, letter to scheduled U.S. air carriers, Feb. 1975, regarding tariff 

complexity 1111 

CAB, letter from Jack Yohe, Director, Office of the Consumer Advo- 
cate, dated Dec. 12, 1974, to consumers 1116 

Civil Aeronautics Board, letter from Jack Yohe, Director, Office of the 
Consumer Advocate, to Senator ICdvvard M. Kennedy, dated Apr. 14, 

1975, listing the budgets of the CAB departments 1055 

Civil Aeronautics Board, "Notice of Proiwsed Rulemaking : Baggage 

Delay and Loss Compensation," Mar. 6, 1975 1124 

Civil Aeronautics Board, "Notice of Propo.sed Rulemaking: Construction, 
Publication, Filing, and Posting of Tariffs of Air Carriers and Foreign 

Air Carriers," Mar. 6, 1975 1127 

Civil Aeronautics Board, James L. Weldon, Jr., Acting Director, Bureau 
of Enforcement, to Senator Kennedy, dated Apr. 10, 1975, in response to 
Senator Kennedy's letter of Mar. 25, 1975, concerning the allocation of 

BOE effort between various kinds of carriers 1132 

Civil Aeronautics Board, reference material inserted in the record by 
the subcommittee : 

Summary of investigative time of the Bureau of Enforcement by 

category of investigation, 1971-74 '. 760 

Kennedy, Senator Edward M.. letter to Richard J. O'Melia, Acting Chair- 
man, Civil Aeronautics Board, dated Mar. 25, 1975, containing several 

followup questions 1131 

Kohn, Eugene H., Docktor Pet Centers, prepared statement (Feb. 25, 

1975) 1130 

"I'm Suzie, Don't Fly Me! Facts About Air Travel for Pets"___ 1130 

Overseas National Airways, prepared exhibits : 

CAB Order E-19492 (1963) 967 

"CAB Knew of $!/> Billion North Atlantic Rebating in 1971," Travel 

Trade Gazette, Feb. 1975 978 

"Airlines Admit to Paying Travel Agents Kickbacks," New York Times, 

Dec. 21, 1974 979 

"Airlines Plan to Settle Kickback Investigation Given to Justice 

Unit," Wall Street Journal, Feb. 13, 1975 980 

Complaint of National Air Carrier Association Against Airlift Inter- 
national and Seaboard World Airlines, dated Feb. 14, 1975 983 

Advance booking round trip charters under proposed S. 421 993 

Examples of affirmative NACA proposals to CAB relating to charter 

rules, 1969 to 1974 994 

CAB Order 74-11-122 (1974) 995 

Comparison of S. 421 and CAB's TGC mode 998 

"CAB : Can This Agency Be Saved?" Air Transport World, Jan. 1975-- 1000 
The development of the intra-European charter market and its rele- 
vance in projecting trends in other world markets 1003 



TtJESDAY, February 25, 1975 

TESTIMONY 

Page 

Nader, Ralph 1150 

Prepared statement 1163 

Panel of Administration officials : John W. Snow, Deputy Assistant Secre- 
tary for Policy, Plans, and International Affairs, L^.S'. Department of 
Transportation; Donald I. Baker, Deputy Assistant Attorney General, 
Antitrust Division, U.S. Department of Justice; and George C. Eads, 

Assistant Director, Cotmcil of Wage and Price Stability 1179 

Prepared statement of Mr. Snow 1200 

Prepared statement of Mr. Baker 1203 

Prepared statement of Mr. Eads 1211 

Finney, Thomas D., Jr., counsel. Continental Airlines 1220 

Prepared statement 1237 

Muse, M. Lamar, president. Southwest Airlines 1242 

Prepared statement 1250 

Dingivan, Edward A., vice president. National Air Carriers Association. ^ 1260 

Prepared statement 1282 

EXHIBITS 

Civil Aeronautics Board, materials inserted in the record for clarification : 

Estimates of cost per passenger, charter service, for .-^e'ected markets. 1279 
Keeler, Theodore E., assistant professor of economics, Univ. of California 

at Berkeley, prepared statement 1296 

Airline costs and fares for 30 city-pairs (1968 prices) 1300 

Fares, costs, and regulation 1304 

Keeler, Theodore E., "Airline Regulation and Market Performance'".- 1305 

Load factors — California intrastate vs. trunk, 1951 to 1970 1315 

Airline costs and fares for 30 city-pairs (1968 prices) 1317 

Airline costs and prices with a 50-percent load factor (1968 prices )__ 1318 

1972 fares and costs 1319 

Nader, Ralph, prepared exhibits : 

Conn, Stephen, "Airlines and Alaska : The Ever- Weakening Thread"-- 1168 

"Convention of Association of Village Council Presidents" 1171 

"Alaska Aviation Industry Is Really Riding High" (Feb. 1975) 1174 

"New Air Cargo Center Opens" (Feb. 1975) 1177 

Nader, Ralph, Answers to Questions of Senator Thurmond 1177 

National Air Carriers Association, prepared exhibits : 

CAB Order 74-10-106 (Oct. 30, 1974) (North Atlantic lATA fares)— 1263 
Statements of the Civil Aeronautics Board on passenger fare matters 
to be negotiated at the lATA North Atlantic Traffic Conference in 

Fort Lauderdale (June 1974) 1276 

Sample comparison of scheduled normal fares with charter rates 

(March 1975) 1285 

National Air Carrier Association, Edward J. Driscoll, president, letter 
to the subcommittee, dated May 6, 1975, concerning suggested 

changes to the charter restrictions 1286 

"Briefs" regarding U.S. supplementals' safety record over the last 

decade 1288 

National Transportation Safety Board, press release, Apr. 17, 1975 1295 

Southwest Airlines, prepared exhibits : 

Passengers in Dallas-Houston, Dallas-San Antonio, and Houston- 
San Antonio (1965-72) 1252 

Southwest Airlines, M. Lamar Muse, president, letter to subcommittee, 

dated May 7, 1975, describing new service to Harlingen, Tex 1253 

Southwest Airlines. Paul Y. Seligson, attorney, letter to the subcommittee, 

dated May 9, 1975, describing new service to Harlingen, Tex 1257 

U.S. Department of Justice, prepared exhibits: 

Indictment in United States v. Braniff Airways, Inc., crim. No. SA-75 

(W.D. Tex., filed Feb. 14, 1973) 1190 



XI 

Wednesday, Febeuaby 26, 1975 

TESTIMONY 

Civil Aeronautics Board : Richard J. O'Melia, Acting Chairman ; Whitney 

Gillilland, Vice Chairman; G. Joseph Minetti, member; and Lee R. Page 

West, member 1^23 

Prepared statement of Mr. O'Melia 1386 

EXHIBITS 

Browne, Secor, former Chairman, CAB, minutes of a telephone interview 
with the subcommittee staff on February 28, 1J)75 (original staff notes 
and the version corrected by Mr. Browne) 1361 

Civil Aeronautics Board, Richard J. O'Melia, Acting Chairman, letter to 
Senator Edward M. Kennedy, dated Apr. 11, 1975, concerning the develop- 
ment of efficiency standards for airlines 1350 

Additional comments of members G. Joseph Minetti and Lee R. 



West 



1351 



CAB, Bureau of Economics, submission in the mainland United 

States-Puerto Rico Case (1975) 1593 

Civil Aeronautics Board, William B. Caldwell, Jr., Director, Bureau of 
Operating Rights, letter to Senator Edward M. Kennedy, dated Apr. 3, 
1975, responding to Senator Kennedy's letter of March 25, 1975, request- 
ing an explanation of BOR practice of highlighting of "effect on indus- 

trv's rate of return" in memos to the Board 1374 

Civii Aeronautics Board, John E. Robson, Chairman, letter to Senator 
Edward M. Kennedy, dated May 30, 1975, concerning disclosure of CAB 

officials prior business relations and contacts with outsiders 1385 

Civil Aeronautics Board, Richard J. O'Melia, Acting Chairman, letter to 
Senator Edward M. Kennedy, dated April 11, 1975, in response to Senator 
Kennedy's letter of Mar. 17, 1975 concerning inaugural flights, gratuities, 

and travel vouchers of CAB officials 1392 

CAB, Phyllis T. Taylor, Acting Chief, Minutes Section, memorandum 
to the General Counsel, CAB, dated Dec. 6, 1966, on the subject of 
the rules applicable to the participation by Board personnel in 

inaugural ceremonial flights (notation 8932) 1398 

CAB, John H. Warner, General Counsel, memorandum to the Executive 
Director, dated Jan. 9, 1964. on the subject of the rules applicable 
to the participation by Board personnel in inaugural or ceremonial 

flights I'lO'^ 

Comptroller General of the U.S., letter opinion to the Chairman of 
the CAB, dated May 20, 1958 (37 Comp. Gen. 776) concerning cere- 
monial flights 1409 

CAB, memorandum from the Board's minutes files entitled "Inaugural- 
Ceremonial Flights" (undated) 1414 

CAB, Regulation Policy Statement No. 19, to Part 399 of the Regu- 
lations (14 CFR 399 et seq) (1963) 1419 

CAB, Regulation Policy Statement No. 6, to Part 223 of the Regu- 
lations (14 CFR 223 et seq) (1958) 1426 

CAB, Regulation Policv Statement No. 21. to Part 399 of the Regu- 
lations (14 CFR 399 et seq) (1964) (excerpt) 1431 

CAB, Andrew J. Anessi. Chief, Tariffs Section, Bureau of Economics, 
letter to Marion F. Curran. Director — Special Transportation and 
Sales Agreements. Pan American World Airways, dated April 24, 

1973, approving an inaugural flight to Caracas. Venezuela 1436 

CAB, news release of May 7, 1973, describing the dedication of 

certain aviation facilities in Oakland 1441 

CAB, sections 360 to 367A of the Regulations, relating to reimburse- 
ment of CAB employees for travel expenses (1973) 1444 

CAB, Brief for Timm in the case of Aviation Consumer Action Project 

V. Timm, No. 74-1945 (D.C. Cir. 1975) 1553 

CAB, Bureau of Enforcement, complaints alleging the illegality of 
"VIP" treatment by 20 airlines in favor of certain persons and 
I)etitions for enforcement (1974) 1582 



XII 

Civil Aeronautics Board, materials inserted in the record by the subcom- 
mittee for clarification : 

Tables showing the return on investment of the airlines as a group Pa&e 

(1947-74) and by carrier (1962-71) 1332 

CAB, Ralph L. Wisner, Chief Administrative Law Judge, memorandum 
to Robert Timm, Chairman, CAB, dated April 2, 1973, listing route 
cases unheard "pursuant to informal instructions of the Chairman's 
office in connection with the unofficial moratorium on route 

eases" ^^^^ 

Example of a CAB staff memo highlighting the topic "Effect on Indus- 
try's Rate of Return" 1368 

Lazarus, Monte, former assistant to Secor Browne, former Chairman, CAB, 
minutes of a telephone interview with the subcommittee staff on Feb- 
ruary 27, 1975 (original staff notes and the version corrected by 

Mr. Lazarus) 1363 

Lockheed-California Co., Grayden M. Paul, director, airline requirements, 
letter to the subcommittee, dated Mar. 21, 1975, containing cost estimates 
of operating the L-lOll-l for various distances with various load 

factors 1336 

Mcintosh, Colin, "Airline Profits . . . Why Delta? . . . And Why Not 
Eastern?" Air Transport World, July 1974 (inserted by the subcommittee 

for clarification) 1345 

Pan American World Airways, Patrick W. Lee, attorney, letter to the sub- 
committee, dated June 19, 1975, replying to the submission of the CAB's 

Bureau of Economics in the letter of Apr. 11, 1975 1663 

Wisner, Ralph L., former Chief Administrative Law Judge, CAB, minutes 
of a telephone interview with the subcommittee staff on February 25, 
1975 (original staff notes and the version corrected by Mr. Wisner) 1359 

VOLUME 3 

Tuesday, March 4, 1975 

TESTIMONY 

Panel of airlines : Randall Malin, vice president, marketing planning, 
American Airlines; Edward A. Beamish, senior vice president, corpo- 
rate planning. United Air Lines; and Richard S. Mauer, senior vice 

president and general counsel. Delta Air Lines 1699 

Prepared statement of Mr. Malin 1^4 

Prepared statement of Mr. Beamish 1T27 

Prepared statement of Mr. Mauer 1732 

Baker. Donald I., Deputy Assistant Attorney General, Antitrust Divi- 
sion, U.S. Department of Justice 1737 

Prepared statement 1742 

Panel of community representatives : Erie A. Taylor, director of avia- 
tion, Clark County, Nevada; and Robert J. Aaronson. administrator. 
State Aviation Administration, Maryland Department of Transporta- 
tion 1753 

Prepared statement of Mr. Taylor 1764 

Prepared statement of Mr. Aaronson 1777 

Civil Aeronautics Board : Richard J. O'Melia, Acting Chairman, and 

Robert Timm, member 1781 

Prepared statement of Mr. O'Melia 1795 

Gilstrap, Roderic W., first vice president, Air Line Pilots Association 2150 

Prepared statement 2151 

EXHIBITS 

Air Line Pilots Association, International, J. J. O'Donnell, president, pre- 
pared statement 2221 

American Airlines, prepared exhibits : 

CAB, James L. Weldon, Jr., Bureau of Enforcement, letter to James 
W. Callison, Delta Air Lines, dated Dec. 17, 1974, denying Delta 
Air Lines' petition for an enforcement proceeding against American 

Airlines 1722 

American Airlines, Richard J. Fahy, Jr., attorney, letter to the subcom- 
mittee, dated Mar. 13, 1975, commenting upon the prepared exhibits of 
Clark County, Nevada 1776 



XIII 

Bower, Richard S., professor of business economics, Dartmouth College, 

special study for the subcommittee on the appropriate return on equity Page 

in the airline industry 2284a 

Trunk airlines, ratio of market value of stock to book value, and 

return on book value, by carrier, 1964-73 2284g 

Table showing association of market price per share/book value per 

share with return on book equity 2284k 

Civil Aeronautics Board, William B. Caldwell, Jr., Director, Bureau of 
Operating Rights, letter to Senator Edward M. Kennedy, dated Feb. 28, 
1975, categorizing 8,057 interairline agreements submitted to the CAB, 

1967-74 1790 

Civil Aeronautics Board, materials inserted in the record by the subcom- 
mittee for clarification and documentation : 

CAB Order 70-11-35 (Nov. 6, 1970), rejecting the "cluster" agreement 

between American, TWA, and United 1800 

CAB Order 71-8-91 (Aug. 19, 1971), approving the "transcontinental 

economic agreement" between American, TWA, and United 1805 

CAB Order 72-11-6 (Nov. 2, 1972), approving first extension of the 

"transcontinental economic agreement" 1818 

CAB Order 73-7-147 (July 27, 1973), approving the 2d extension of the 

"transcontinental economic agreement" 1846 

CAB Order 72-6-70 (June 16, 1971), approving the N.Y.-San Juan 
"economic" agreement between American, Eastern, and Pan 

American 1884 

CAB Order 72-11-7 (Nov. 2, 1972), approving the first extension of the 

N.Y.-San Juan "economic" agreement 1892 

CAB Order 73-8-59 (Aug. 10, 1973), approving the 2d extension of the 

N.Y.-San Juan "economic" agreement 1902 

CAB Order 7a-10-110 (Oct. 31, 1973), approving the "20-market fuel- 
related agreement" and the "transcontinental fuel-related agree- 
ment" between American, TWA, and United 1913 

CAB Order 74-7-105 (July 24, 1974) approving the 2d extension of the 
"20-market fuel-related agreement" and the "transcontinental fuel- 
related agreement" 1927 

CAB Order 75-1-140 (Jan. 31, 1975), approving the 3d extension of the 
"20-market fuel-related agreement" and the "transcontinental fuel- 
related agreement" 1957 

Capacity Reduction Agreements Case, initial decision 1984 

Clark County, Nevada, prepared exhibits : 

TraflBc in the Las Vegas-New York market, the Las Vegas-Chicago 
market, and for the Las Vegas station, before and after the capacity 

reduction agreements were initiated 1769 

Actual vs. standard load factors. Las Vegas-Denver, Jan.-Mar. 1974__ 1770 
Las Vegas markets subject to capacity reduction agreements and dura- 
tion of agreements 1772 

Bar graph showing deleterious effect of capacity reduction agreements 

in Las Vegas-New York and Las Vegas-Chicago markets 1773 

Load factors in Las Vegas' agreement markets compared with other 

load factor standards 1773 

Bar graph showing actual vs. standard load factors. Las Vegas-Denver 

market. Jan.-Mar. 1974 1774 

Las Vegas-Denver agreement cost Las Vegas $1 million (excluding 

gambling) 1775 

Clark County, Nev., Richard P. Taylor, attorney for Erie Taylor, letter 
to the subcommittee, dated Mar. 27, 1975, commenting upon American 

Airlines' letter of Mar. 13, 1975 1776 

Delta Air Lines, R. S. Maurer, senior vice president and general counsel, 
letter to Senator Edward M. Kennedy, dated Mar. 7, 1975, concerning 

E^st coast-Florida load factors. Mar. 1974-Feb. 1975 1710 

Delta Air Lines. R. S. Maurer, senior vice president and general counsel, 
letter to Senator Edward M. Kennedy, dated Mar. 21. 1975, commenting 

generally on the antitrust immunity for interairline agreements 1735 

Federal Aviation Act of 1958, sees. 412, 414. 49 U.S.C. sees. 1382, 1384 (1970) 

(inserted in the record by the subcommittee for clarification) 1782 



XIV 

Karth, Joseph E., Congressman, Fourth District, Minnesota, prepared state- Page 

ment on the mutual aid pact 2228 

Kimbriel, Harry A., Jr., vice president, Alliance One, prepared statement-- 2234 
Moser, Herbert H., vice president, Merrill Lynch, Pierce, Fenner & Smith 

Inc., prepared statement '_ 2240 

Personal outlays on transportation and recreation services as percent- 
age of disposable personal income, 1968 dollars, 1953-74 2242 

Personal consumption expenditures on purchased transportation as 

percent of disposable personal income, 1950-72 2243 

Cyclicality of domestic trunk traffic, 1953-69 2244 

Relative weight of factors contributing to increase in traffic, 1962-66__ 2244 
Seasonality of North Atlantic and Mainland-Hawaii scheduled air 

traffic 2246 

Distribution of travel by purpose of trip, for automobile and airplane, 

1972 2247 

Characteristics of nonbusiness travel, by automobile and airplane, 1972 2248 
Income distribution of travelers, for automobile and airplane, 1972___ 2249 

Domestic trunk and North Atlantic traffic, 1970-74 (by month) 2250 

Distribution of 1971 domestic trunk coach traffic, by fare plans 2252 

North Atlantic traffic, scheduled vs. charter, 1967, 1970, and 1973 2253 

New York-London, summer roundtrip fares, 1972-74 2254 

Travel agents' commissions and reservations and sales expense as a 

percentage of total passenger revenues 2255 

Capital and stock structure comparisons, U.S. trunk airlines and man- 
ufacturing corporations, 1961-73 2256 

Airline increases in employment costs outpace those of other U.S. in- 
dustries, 1965-70 2257 

Trunk passenger load factors, 1963-74 2258 

Trunk airline stock prices and earnings, 1965-74 2260 

U.S. population distribution, 1961-80 2261 

Projection of families by income class percent distribution, 1970-80 2262 

Income propensity and elasticity of international travel 2262 

Peltzman, Sam, professor of economics. University of Chicago, prepared 

statement 2265 

Trans World Airlines, IMelvin A. Brenner, vice president, marketing plan- 
ning, prepared statement (Mar 4, 1975) 2155 

Industry load factors, New York-Los Angeles market, before and after 

the capacity reduction agreements 2158 

Trunk airlines' return on investment, 1955-74 2159 

Trunk airlines' load factors, year ending Sept. 30, 1973 2160 

Trunk airlines' load factors, Nov. 1973-Jan 1974 compared with Nov. 

1974-Jan. 1975 2161 

Brief of TWA in the Capacity Reduction Agreements Case, CAB docket 

22908 (filed Feb. 7, 1975) 2162 

Trunkline airlines' rate of return on investment, domestic operations, 

by carrier, 1967-71 2183 

Load factors in the transcontinental agreement markets, 1967-71, com- 
pared with the load factors of the domestic trunkline operations.— 2185 

Percentage changes in domestic trunkline trafSc, 1972-74 2198 

U.S., Circuit Court of Appeals for the D.C. Circuit, materials, inserted in 
the record by the subcommittee for clarification and documentation: 

Air Line Pilots Ass'n. v. CAB, 475 F.2d 900 (D.C. Cir. 1973) 1976 

United States v. CAB, F.2d (D.C. Cir. 1975) 2119 

U.S. Department of Transportation, John W. Barnum, Acting Secretary, 

prepared statement (Mar 4, 1975) <;— V""" 

U S Department of Transportation. John W. Barnum, Deputy Secretary, 
letter to Senator Edward M. Kennedy, dated July 24. 1974 evaluating 
the ATA Rtudv. "Consequences of Deregulation" (p. 139. above) _ --»t) 

U S General Accounting Office, partial response to Senator Edward M_ 

Kennedy's request for an evaluation of the ATA study, "Consequences of ^^^ 

■npreo-nlation" (p. 139, above) . 7, ;? "" 

Subcommittee staff, an insert for the general reader -Pjf -"^ ';7^„^7£ 

reduction agreements" and giving a chronology of events relevant to the ^^^ 
hearings of this day 



XV 

Fetoay, March 21, 1975 
TESTIMONY 

Alterman, Stephen A., former Assistant Chief, Formal Proceedings Divi- Page 

siou, Bureau of Enforcement, Civil Aeronautics Board 2303 

Burns, Bernard B., former investigator, Bureau of Enforcement, Civil 

Aeronautics Board 2323 

Rickey, Robert F., former Assistant Chief, Investigation Division, Bureau 

of Enforcement, Civil Aeronautics Board 2326 

Weldon, James L., Jr., former Chief, Formal Proceedings Division, Bureau 

of Enforcement, Civil Aeronautics Board 2329 

Hadlock, Gerald F., former Deputy Director, Bureau of Enforcement, Civil 

Aeronautics Board 2336 

Knudson, John V., former investigator, Bureau of Enforcement, Civil Aero- 
nautics Board 2344 

Edison, Peter C, former Assistant Chief, Informal Compliance Division, 

Bureau of Enforcement, Civil Aeronautics Board 2348 

Rodriguez, Elias C, former Chief, Informal Compliance Division, Bureau 

of Enforcement, Civil Aeronautics Board 2349 

O'Melia, Richard J., Acting Chairman, Civil Aeronautics Board ; formerly 

Director, Bureau of Enforcement, CAB 2350 

Timm, Robert D., member. Civil Aeronautics Board ; formerly Chairman, 

CAB 2374 

EXHIBITS 

Civil Aeronautics Board, material inserted in the record by the subcommit- 
tee for clarification or documentation : 
Alterman, Stephen A., memorandum to the Director, BOE, dated July 

12, 1973, on the subject of "contributions : analysis of Federal Avia- 
tion Act violations" 2304 

Alterman, Stephen A., memorandum to the Director, BOE, dated July 

13, 1973, on the subject of "illegal campaign contributions : methods 

of proceeding" 2305 

Alterman, Stephen A., memorandum to the Director, BOE, dated July 
20, 1975. on the subject of "investigation of illegal unreported cam- . 
paign contributions: proposed action" 2307 

Alterman, Stephen A., memorandum to Chief, Litigation Division, 
CAB, dated July 25. 1973, on the subject of "illegal unreported cam- 
paign contributions: guide for questioning" (showing questions 
subsequently deleted) 2312 

Alterman, Stephen A., memorandum to the file on "Unreported Cam- 
paign Contributions Investigation," dated July 31, 1973, on the sub- 
ject of "summary of action" 2317 

Memorandum from Assistant Chief, Legal Division, CAB. to Chief. 
Investigation and Audit Division, CAB, dated Feb. 28, 1975, on the 
subject of "special audits/political contribution cases" 2336 

Memorandum, dated Nov. 5, 1973, closing one of the campaign contri- 
bution cases 2345 

O'Melia, Richard J.. Director, BOE, memorandum to Chairman, CAB. 
dated Aug. 8. 1973. on the subject of "industrywide survey regarding 
political contributions by air carriers" 2355 

Timm. Robert D.. Chairman, memorandum to Director, BOB, on the 
subject of "industrywide survey regarding political contributions 
by air carriers" 2356 

Stout. Joseph W.. Jr.. memorandum to Chairman. CAB. dated Mar. 7, 

1975. on the subject of "political contribu^^ion investigation" 2364 

Example of field report of the "industrywide survey regarding politi- 
cal contrihuHons by air carriers" (Julv 1973') 2367 

Stont, Joseph W.. Jr.. Chief. Investisration and Audit Division. BOE. to 
Director, BOE, dated Mar. 18, 1974, on the subject of "completed 

invpstisration ca^es" 2368 

Gingerv. William M.. former Director. Bureau of Enforcement. CAB. letter 
to the .subcommittee, dated Februarv 15. 1975. concerning hi« investiga- 
tion of BOE^ investisrntion of the failure of certain airlines to report 
certain campaign contributions in 1973 2300 



XVI 

Kennedy, Senator Edward M., letter to Edward H. Levi, U.S. Attorney 
General, dated May 12, 1975, requesting an investigation to determine 
w'lietlier Federal criminal laws were violated in connection with sworn 
testimony before the Subcommittee on Administrative Practice and Pro- 
cedure of the Senate Committee on the Judiciary on Mar. 21, 1975 and in 
connection with the CAB's investigation of possible corporate iwlitical Page 
contributions by air carriers in 1973 2385 



DEPOSITIONS TAKEN BY THE SUBCOMMITTEE 

Heye, Thomas, former Administrative Assistant to Robert D. Timm, Chair- 
man, Civil Aeronautics Board {deposition taken Mar. 27, 1975) 2387 

Stout, Joseph W., Jr., former Chief, Inv&stigation and Audit Division, 
Bureau of Enforcement, Civil Aeronautics Board (deposition taken Apr. 
18, 1975) 2419 



List of witnesses by name and organization 2471 

Persons who submitted additional material at the subcommittee's request- _ 2474 
Topical index 2475 



Volume 1 



OVERVIEW OF FEDERAL ECONOMIC REGULATION OF 
DOMESTIC AIR TRANSPORT 



THURSDAY, FEBRUARY 6, 1975 

U.S. Senate, 
Subcommittee on Administrative 

Practice and Procedure of the 

Committee on the Judiciary, 

Washington^ D.C. 
The subcommittee met, pursuant to notice, at 10:20 a.m., in room 
2228, Dirksen Office Building, Senator Edward M. Kennedy (chair- 
man of the subcommittee) presiding. 
Present : Senator Kennedy. 

Also present : Stephen Breyer, special counsel ; Philip Bakes, assist- 
ant counsel; Thomas M. Susman, chief counsel; and Lewis Beasley, 
assistant to Senator Tliurmond. 

Senator Kennedy. The subcommittee will come to order. 

OPENING STATEMENT OF SENATOR KENNEDY 

The Senate Subcommittee on Administrative Practice and Pro- 
cedure is today continuing the examination it began last November 
of the procedures and practices of the Civil Aeronautics Board. The 
subcommittee has scheduled 7 days of hearings this winter to look into 
the CAB's activities relating to rates, entry, enforcement, and 
antitrust. 

Federal regulation of transportation began in the 1880's with two 
objectives : First, to protect the consumer from concentrations of eco- 
nomic power, and second, to guarantee that essential transportation 
would be available to all Americans. But regulation has gone astray. 
What may have been good for the last quarter of the 19th century is a 
disaster for the last quarter of the 20th century. Either because they 
have become captives of regulated industries or captains of outmoded 
administrative agencies, regulators all too often encourage or approve 
imreasonably high prices, inadequate service, and anticompetitive be- 
havior. The cost of this regulation is always passed on to the consumer. 
And that cost is astronomical. 

In the transportation area alone, studies have estimated the cost 
to the public of Federal regulation to be $8 to $16 billion each year. 
That is an unreasonable price at any time. It is wholly unacceptable 
under our present economic conditions. 

President Ford is asking the American people to absorb billions 
of dollars in additional living costs to alleviate our energy problems. 
At the same time, he is asking Congress to freeze or reduce spending 
on social programs designed to ease the financial burden on those least 
able to cope with recession and inflation. The President is predicting 
a frightening unemployment rate of over 8 percent to continue during 
the next several years. 

(1) 

51-146 O - 76 - pt. 1 - 2 



Americans are being asked to make these harsh and difficult sacri- 
fices. Many of these sacrifices cannot be justified on their own; but 
they stand in even starker contrast with the continuing drain on our 
economy that regulatory agencies impose. 

The direct effects of regulation by the Civil Aeronautics Board are 
translated into the prices the public pays to get from one city to an- 
other — whether for business, pleasure, or family emergencies. Some 
critics have estimated that as a direct result of CAB regulation the 
public pays from 32 to 47 percent in excess air fares. These inflated 
costs are passed on to the consumer by the sellers of goods and services 
who must utilize the airplane to transport its products and employees. 
CAB economic regulation is thus of vital concern to every American. 
Although the way the CAB regulates may be complex, the effects of 
that regulation are dramatic and clear. 

The administration has asked Congress to create a commission to 
study regulatory reform. While I support that proposal, I also believe 
that the President and the Congress have a duty to propose something 
concrete to bring about reform. 

Throughout our hearings we will be asking two questions about 
the CAB's practices and procedures : First, are they effective ? Do they 
result in reasonably priced air transportation for the consumer and 
reasonable incentives for the airlines to provide that service? Second, 
are they fair? Do they give the public, as well as the airlines, an ade- 
quate opportunity to present their points of view before important 
decisions are made ? 

Last November the subcommittee began this process by examining 
the CAB's decision to set minimum charter rates. We concluded that 
in this instance the decisionmaking process operated neither fairly 
nor effectively. The CAB's actions in this area will unjustifiably add 
millions of dollars to the public's bill for air travel. Subsequently, the 
Court of Appeals for the District of Columbia issued an indefinite 
stay of the CAB's minimum charter rate policy. 

Today, we will begin with a broad overview of CAB policies and 
procedures. Next week we will examine the fares and service provided 
by intrastate carriers, and the performance of State regulations of 
airlines who are not regulated by the CAB. We will ask why State- 
regulated airlines in California and Texas provide profitable, unsub- 
sidized service at fares that are sometimes 50 percent lower than those 
charged bv the CAB-regulated carriers. We want to know the reasons 
for these differences. The subcommittee will ask whether, as is so often 
charged, regulation by the CAB is responsible for them. 

We will go on to review the Board's procedures for determining 
proper rates. In the past 14 months, the Board has granted direct 
fare increases of over 16 percent. It has eliminated special fares for 
children and vacationers, producing an average fare increase of more 
than 20 percent. Neither inflation nor rising fuel costs can fully ex- 
plain these fare increases. 

So again we must ask. is CAB regulation responsible? Do the 
Board's procedures ensure that low airline profits lead to quick, auto- 
matic, fare increases, while high airline profits are neither quicklv nor 
automatically translated into fare cuts? Do its ratemaking procedures 
reward the inefficient, unprofitable carriers with industrywide fare 



3 

increases that efficient carriers do not need and would not impose in a 
competitive environmejit? Do the Board's procedures work to produce 
rates based on, in the words of tlie P>deral Aviation Act of 1958. the 
"lowest cost consistent with the furnishing of adequate service" ? More 
fundamentally, if the task of regulating air fares is so inherently com- 
plex that imperfections and higher costs will result no matter what 
ratemaking procedures are used, then we will ask to what extent 
reform can be accomplished by returning the determination of prices 
to the marketplace and the laws of supply and demand. 

The subcommittee will also analyze the Board's procedures for 
awarding routes. It has been claimed that a more flexible entry policy — 
a policy that more freely awarded routes to qualified applicants — 
would itself help keep prices low. The fear of attracting competition 
may also act as an additional constraint on airline pricing policies. Yet 
the CAB lias adopted precisely the opposite appioach in recent years. 
But, it has never decided to adopt this policy formally, as required by 
the Administrative Procedure Act. The subcommittee will examine 
the Board's past behavior, as well as its recently announced proposals 
for procedural change, to detemnne whether both the public and the 
industry are being adequately served by Board actions. 

The subcommittee will also look at the CAB's use of its enforcement 
powers. We will ask whether the agency has devoted disproportionate 
resources to stamping out low-fare transportation charters — air travel 
clubs that put pleasure travel within the reach of millions of average 
citizens — while doing little, if anything, about airline overcharge. 

Finally, the subcommittee will look at the Board's use of its power 
to grant antitrust exemption to several carriers who reached agree- 
ments to curtail service competition in selected markets. Has the Board 
imposed safeguards sufficient to assure that the public will not suffer 
unnecessary curtailment of service ? Have the reduced costs of the car- 
riers who have curtailed service been passed on to those consumers who 
now receive that reduced service? Does the CAB too easily ignore the 
policies of the antitrust laws, allowing the airlines to engage in collu- 
sive action to divide up markets and profits ? 

The scope of these hearings is broad and our time is limited. But 
we have been substantially aided by the cooperation of the airlines, 
several executive agencies, and the CAB itself. Even before these hear- 
ings were announced last December, the airlines and the CAB were 
compiling data and submitting responses to detailed and extensive 
questionnaires from the subcommittee. Some of our questioTis asked 
for data and analyses that neither the CAB nor the airlines had pre- 
viously compiled. 

The responses have been immeasurably helpful to the subcommittee. 
The Board, executive agencies, and the airlines have had an oppor- 
tunity to reexamine their own assumptions in preparing for these 
hearings. Just last week, I am happy to report, the Board itself 
announced that it was establishing an internal study group to re- 
examine its functions and the need for regulation. T hope that study 
croup will pay dose attention to the evidence we Avill be. developing in 
these hearings. The subcommittee will certninlv monitor the progress 
of the group's work and will closely study its final report. 

The Department of Transportation, the Department of Justice, the 
President's Council of Economic Advisers, and the Council on Wage 



and Price Stability have lent substantial assistance to our efforts. They 
have developed concrete proposals for reform that will be explained 
by them during the course of these hearings. 

Today, we will hear from several government agencies, some experts 
on economic regulation, and representatives of the scheduled airline 
industry. These witnesses have been asked to tell us whether there is 
a need for reform and to suggest the direction reform should take. 
Thus, today's hearing will provide an overview of the major problems 
involved in airline regulation. Proposals for reform will be set before 
the public by various witnesses, and these proposals will provide a 
framework for the examination that will continue more specifically 
in the future hearings this month and next. 

Our first witness this morning is Mr. John Barnum, who came to 
Washington from his New York law practice in 1971 to become Gen- 
eral Counsel of the Department of Transportation. In 1973, he assumed 
the job of Deputy Secretary of Transportation and is presently Acting 
Secretary of Transportation. 

As I indicated in my opening statement, the DOT, both Mr. Barnum 
and Mr. Binder, have been extremely helpful to us in preparing for 
these hearings. 

We are pleased to have you with us and we look forward to your 
testimony this morning. 

STATEMENT OF JOHN W. BARNUM, ACTING SECRETARY OF TRANS- 
PORTATION, ACCOMPANIED BY WILLIAM A. KUTZKE, OFFICE 
OF THE GENERAL COUNSEL, DEPARTMENT OF TRANSPORTATION 

Mr. Barnum. Thank you, Mr. Chairman, and thank you for the 
kind words concerning Assistant Secretary Binder and Assistant 
Secretary Snow, who are not available at this time. 

I would like to introduce William A. Kutzke who has been on the 
firing line for the DOT in the CAB proceedings in which the 
Department participates. 

I would also thank you for your invitation to present the views of 
the Administration on the important subject of regulation of air 
transportation and how it can be improved. 

The Department is vitally interested in the issue. Since DOT's in- 
ception in 1967, we have participated in many proceedings before the 
Civil Aeronautic Board. In our Board filings, the Department has 
been a strong advocate of improving the economic, performance of 
air transportation through increased reliance on competitive market 
forces. The unifvinff theme that runs through virtually all of our 
filings before the CAB is that greater reliance on competitive market 
forces will improve the economic performance of the industry and re- 
sult in lower, more cost related rates, will reduce excess capacitv, and 
will provide the air traveling public with a wider and more desirable 
range of service and price options. 

I believe we are now at a regulatory watershed. For the past several 
months, the Administration has been reviewing the transportation 
regulatory system with a view to improving both performance and 
economic efficiency. The reform proposals presently being prepared by 
the Administration mark a major departure from the regulatory 
regime we have relied upon in the past. The Administration will 



submit to Congress in the near future a proposal which will funda- 
mentally redirect our air transportation reoulatory policy. Your hear- 
ings, therefore, come at an opportune moment. Today I will outline 
the Administration's position on reguhation of air transportation. 

The need for an air regulatory reform act is demonstrated both by 
economic research and by our experience. At present, for example, air 
carriers, sliippers, and passengers frequently face a web of restrictive 
government regulations which stifle competition, discourage innova- 
tion, and foster inefficiency. In many respects, tlie present air regu- 
latory structure is outdatecl, inequitable, inefficient, uneconomical, and 
sadly irrational. It often misplaces incentive and disincentive, disorts 
competitive advantage, protects inefficient carriers from effective 
competition, over-restricts market entiy, artifically inflates rates and 
misallocates our Nation's resources. Under the current system, many 
consumers pay an artificially inflated price for air transportation 
because rate setting, unnecessary entry restriction, capacity agi:eements 
and other forms of shelter from competition sanctioned by the Board 
protect the least efficient carriers, permit rates substantially above an 
efficient cost level and distort competitive market forces. The resulting 
economic waste and associated inefficiency is substantial. 

The present air regulatory system is the product of a different era. 
While the needs and conditions on which air regulation was first pre- 
dicted some 40 years ago have changed, the goals and practices of 
government regulation Jiave not. It is unfortunately a truism that 
regulation begets further regidation and that regulations outlive their 
rationale. 

I fully agree with the statements you made in your opening remarks 
that regulatory practices developed 40 years ago are not suitable to the 
last quarter of this century. 

In 19-38, when the Civil Aeronautics Act Avas passed, goveniment 
assistance through protection, subsidy, promotion, and regulation was 
a necessary factor in the development of a new and strujrgling in- 
dustry. Tliirtv-seven years later, conditions have changed. The air 
tra.vei marketis mature. Traffic has grown. Growth has led to stability. 
The industry is vigorous. But this i-egulatory system which protected 
it and made it that way has not kept pace. 

The problems once faced have bee]i largely solved, ^ow we are faced 
with problems that are a by-product of that success. The promotion 
which once fostered growth now causes inefficiency. The restrictions 
whicli once guaranteed stability now retard competition. The regu- 
latoiT protection which once insured existance now prevents sayings. 

We need a better system which comes closer to producing optimum 
social and economic results, one which maximizes efficiency, economies, 
and consumer options and which produces the best mix bet^^ een low 
cost and high quality service. 

cab's first major power: fares 

The most pressing problems in the airline regulator}' field cluster in 
three broad areas — ratemaking and pricing flexibility, market entrv^ 
and exit, and anticompetitive agreements. Each area is in need of re- 
form. Let me identify what we see as the future direction which the 
Administration suggests. 



6 

A major difficulty with CAB policy has been ratemaking and the 
carrier inability to raise and lower rates in response to the demands 
of the marketplace. This in turn forces carriers into costly and un- 
economic service competition, deprives the traveling public of the 
range of price and service options which would otherwise be available, 
and results in substantial economic waste and inefficiency. 

Section 404 of the Federal Aviation Act requires carriers to estab- 
lish just and reasonable rates. Section 1002 permits the Board to 
prescribe maximum or minimum rates if it is of the opinion that the 
rates charged are unjust, unreasonable, preferential, or discriminatory. 
In deciding whether a rate is too high or low the Board takes into 
account, among other factors, whether the rate is compensatory, pro- 
viding the carrier with sufficient revenue. 

The result of the Board administration of these sections has been 
the elimination of price competition, thereby restricting competition 
to service. Passengers find airlines competing for their patronage 
through elaborate cuisines, free drinks, attractive stewardesses, multi- 
colored planes, and piano bars. But they do not have a menu where 
different quality service is related to different prices. This is a serious 
loss. 

Many passengers would prefer the opportunity to select carriers 
based on price in addition to type of service. Some passengers would 
prefer high-load factor, low-frill, low-fare service. Others are willing 
to pay for more comfortable and more costly service. Present pro- 
cedures do not produce that variety of price and service options. Often, 
present regulation causes fares well above those which would occur 
in a more competitive air transportation market. With prices fixed at 
levels above market rates, carriers compete on the basis of service. 
Such service competition produces substantial unused capacity and 
unnecessarily low-load factors, presently averaging about 57 percent 
in the domestic market. In the transcontinental market, for example, 
rates are set sufficiently high to permit the carriers to earn a reasonable 
return with load factors in the mid-40-percent range. DOT believes 
that many transcontinental passengers would prefer the minor incon- 
veniences associated with higher load factors in return for less expen- 
sive tickets. In a more competitive market, carriers would respond by 
providing such low-cost service. 

One recent study showed that, at an average load factor of 75 per- 
cent, prices could be 27 percent lower than at a 50-percent load factor. 
While 75-percent load factors are unrealistic in most markets, this 
example illustrates the potential savings associated with pricing 
flexibility. 

"zone or reasonableness" for fares 

Present Board policies encourage lower than optimal load factors. 
dot's testimony in the CAB's Domestic Passenger Fare Investigation 
showed that when load factors increase beyond a break-even level 
(defined to include profits), carriers schedule additional capacity, 
thereby lowering load factors to the break-even level again. 

Because of this inflexibility, in the Dojriestic Paasenger Fare Investi- 
gation, DOT, among other things, urged the Board to establish a 15- 
percent "zone of reasonableness" above and below the fare structure 
curve. The zone would not apply in monopoly markets, as defined by 



the CAB, where the Board would continue to review and suspend 
rates. Within the zone, carriers would be permitted to compete on the 
basis of price, free from regulatory interference. Outside the zone, the 
Board could continue to suspend rates it believed unlawful under its 
ratemakino; standards. 

Senator Kennedy. Why wouldn't some of the stronger official car- 
riers just lower their rates until they drive the competition out? 

Mr. Barnum. That might be the result if you didn't simultaneously 
make a change with respect to your entry. If you do make the con- 
comitant change in entry, in the event you suggest another carrier 
would come into that market, when rates rise above a competitive level. 

Senator Kennedy. But how can a carrier come back in? I would 
think it would take a very considerable amount of investment, and 
once they get right back in, the fare could be lowered again to drive 
them out. I would think the people would bet the idea pretty quickly 
after two or three people lose their shirts. 

INIr. Barnum. Many of the markets you are talking about are mar- 
kets that could be served or not served by existing carriers. 

The easy case, of course, is a market in which a carrier serves both 
end points anyway, let's say New York-Cincinnati. TWA may be 
serving Cincinnati from Chicago, and New York from a number of 
places. It drops the New York-Cincinnati leg for one reason or 
another, or perhaps it is not now in the New York-Cincinnati leg. But 
if other carriers were to raise fares as you suggest, TWA would 
promptly go right back into the New York-Cincinnati market. That 
is the easy case. 

The more difficult case would be a market where a carrier did not 
have a base at one of the end points. 

In any event, you must have a different practice with respect to 
entry in order to make rate flexibility meaningful and to avoid the 
very result you are talking about. 

Senator Kennedy. How do you know they just wouldn't go ahead 
and charge the ceiling, too. Perhaps if one carrier found out that 
another is going up to the ceiling, the first carrier would say, well, 
since Airline X is charging the ceiling and getting a good return 
on investment, I think we will, too, and then we would end up having 
the same kind of competition that you have outlined earlier? 

Mr. Barnu:\i. Well, I think you would find there would be a number 
of carriers that would charge a higher rate at those times of the day; 
for example, where there is such a demand that they can get it. 

But what we would like to see happen is illustrated in the hypotheti- 
cal case of Chicago-Los Angeles. It may be that the 6 p.m. flight would 
find a rate toward the high end of the zone because there is high 
demand for it, there are a lot of people that want to fly at that time, 
and indeed the major carriers, the trunkline carriers, might charge 
the same rate at the high end of the scale. But price flexibility would 
permit them to charge a lower rate during the middle of the day when 
they could attract people to use planes now operating with a lower 
load factor, such as the 2 p.m. flight, when there is not such a great 
demand. You could get price flexibility which would spread out the 
demands of the airline and increase the load factor, which is what we 
are really shooting at. 



8 

The limits of the zone we proposed in DPFI ensure that neither 
dramatic price increases nor destructive price competition would en- 
sue. The Department position rested on the premise that greater reli- 
ance on market forces would result in the establishment of rates based 
on costs and would afford the public a wider and better range of price 
and service options. We emphasize that the lack of price competition 
in the air industry was the primary cause of "seat wars" and other 
service competition which resulted in undue unused capacity and in- 
flated cost levels. 

In its Domestic Passenger Fare Investigation decision, the Board 
did recognize that fares should be more closely alined to costs. It 
largely adopted our conclusion that low fares for short-haul passengers 
should not be subsidized by higher fares for long-haul passengers. 

SMALL TOWN SERVICE (CROSS-SUBSIDY) 

Senator Kennedy. Well, now, I come from a part of the country 
where we had up to — well, the last 8 or 9 years we had service into a 
number of smaller communities in Massachusetts. We had air service 
into New Bedford, Worcester, Springfield, down in Hyannis, and of 
course that was replicated in a variety of different smaller communi- 
ties all over northern New England. 

As you are probably aware. Northeast flew in New England and 
then they got their ticket to go down to Miami and they primarily 
focused on that, and they claimed at least to use cross subsidy. They 
abandoned New England routes. I think there is one flight a day in 
through Hyannis and the Islands, and the smaller airlines have taken 
over, and let me say quite frankly they have been very good, at least 
in our part of the country, at least in the areas of New England in 
which I have traveled. 

But if you reject the cross-subsidy argument aren't you just saying 
that you are virtually abandoning some of these smaller communities, 
that maybe they will, as took place down on Cape Cod, with Down- 
East Air Lines or Pilgrim Air Lines that fly out to Provincetown ; 
aren't you really saying to smaller communities — and I am sure this 
is true* in other parts of the country— you fellows are on your own. 
If there is an enterprising smaller company that can put together the 
financing and find the pilots and all the rest, maybe you will get good 
service, but otherwise you are on your own. Aren't you telling that to 
hundreds of smaller communities all over the country by this 
suggestion ? 

Mr. Barnum. I think not. I think we should avoid confusing a num- 
ber of the subelements of the cross-subsidy question. 

The principal issue addressed bv the Board in the Domestic Pas- 
senger Fare Investigation proceeding I am talking about came up in 
the context of fare construction and the way in which an airline should 
build up its fares related to its cost : A certain amount to ticket the pas- 
senger ; a certain amount per mile for the first 500 miles ; and a de- 
creasing amount for further miles. , . 

We felt at that time the long-haul passenger was subsidizing the 
short-haul passenger. For example, because the passenger going from 
New York to San Francisco had very few other ways in which to take 
that trip, the airlines were able to charge him a higher fare relative 



to cost than they were in the situation, say, from Boston to New York, 
where there were alternative means of transportation and where the 
air carrier had to take into account the fares of Amtrak and of inner- 
city buses. Because of the intermodal competition, the shorter haul 
fares were lower and, to a degree, we felt, cost-subsidized by the long 
hauls. That is just an economic analysis of what it costs the air carrier 
to operate long haul and short haul. That is the cross subsidization 
that we objected to. and the CAB objected to, in Phase 9 of the Domes- 
tic Passenger Fare Investigation. 

I think that position is entirely appropriate and I don't think your 
question was really criticizing that kind of position on cross- 
subsidization. So I would like to put that asifle for a minute. 

I would also like to put aside the problam created by seasonal 
demands. When you talk about the Islands and Cape Cod — and I fly 
those same flights myself — you are talking about a seasonal demand, 
and that obviously presents a separate problem. 

But let's talk now about the smaller communities that are in 
jeopardy of not getting continued service, if that service is not eco- 
nomic and cannot be cross-subsidized by the profitable routes that the 
carrier services. Now, of course, there is at the present time a local 
subsidy operation available to the CAB. It is exercised now at the 
level of about $68 million last year and about $66 million in the forth- 
coming budget. By and large, local subsidies have been going down, 
relatively, as inflation has come along. 

To the extent that a trunk line cannot economically serve a smaller 
community, we do not think it should be required to continue to pro- 
vide that service. In the last 5 years, we have seen a dramatic sub- 
stitution of second level service for some of the trunkline service that 
previously existed. The very region of the country you are talking 
about is a dramatic example of that. Allegheny has provided substi- 
tuted service in a number of cities that it previously served or that 
Mohawk served prior to the Allegheny-Mohawk merger. New England 
speaks very well to the point that many carriers in a less regulated 
climate would be prepared to come in and provide the service that 
you are talking about. 

The specific proceeding before the CAB on New England service 
laid out a good record where service could be provided by trunk car- 
riers and secondary carriers, and it also gave you some evidence that 
intercity passenger services such as buses were available to get people 
from Bangor to New York or Bangor to Boston and there was not 
the need for certificated air service as existed in some other parts of 
the country. 

I agree with you that it is something we have to keep our eye on, 
but I don't believe you should permit cross-subsidy as the answer. 

Would you like me to pursue that? 

Senator Kexxedy. Why don't vou continue. We will come back to 
this. 

DESTRUCTIVE COMPETITION 

Mr. Barnum. The Board was unwilling at that time, however, to 
adopt the broader principle of pricing flexibility, constrained only by 
costs. 



10 

Senator Kennedy. In reaching this position you must have done 
some work or some studies that would give you some assurances that 
you wouldn't have cutthroat competition in this kind of thing and 
drive people out of the market. Have you studied this in reaching this 
decision on pricing flexibility and expediting decisionmaking? What 
about cutthroat competition that would destroy the competition basi- 
cally ? You are satisfied that that won't be the case ? 

Mr. Barnum. We are. We did do just that examination and we 
submitted some of that evidence in Phase 9 in the Domestic Passenger 
Fare Investigation. 

I think if you combine this with easier entry provisions, you would 
not get the cutthroat competition to drive competitors out. We are 
not talking about requiring the CAB to permit destructive price 
competition. If you will permit greater flexibility entry, you will 
get threshold pricing in these markets so that the carriers who are 
in these markets will price at a level just high enough to discourage 
the other carriers able to come in from coming in because the very 

startup costs will prevent them from coming in and making it 

Senator Kennedy. "S'ou think that this threshold cost is the most 
effective cost for the consumer? 

Mr. Barnum. That has got to be the most effective cost to the 
consumer; yes. 

Now, there has to be a basic cost element in here that, of course, 
we in the Department of Transportation are always mindful of. We 
are not just talking about selling oranges. We are talking about selling 
air transportation. There has to be a very basic and substantial cost 
here for safety. We are mindful, as I am sure you are, of the ingre- 
dients of operating an airline. We are not in any way inviting you to 
open up the pricing of transportation so that safety would be 
derogated. 

Another procedural problem associated Avith pricing is CAB delay 
in deciding whether rates are reasonable. 

SAFETY AND COMrETITION 

Senator Kennedy. Have you got any study about the performance 
of new carriers in the area of competition on the basis of safety ? Have 
you drawn any conclusion or made any study of how much of an 
issue tliat would be or Avliether that is a question to be resolved? 

Mr. Barnum. It hasn't been an issue among trunk carriers because 
there haven't been any new trunk carriers. It is an issue when we talk 
about air taxies, and "this is a very serious problem. I am afraid our 
record of accidents of air taxies is not as good as we would like. A 
lot of these people are starting up and do not have all the elaborate 
safety practices and manuals the trunk carriers have been able to 
develop over the years. 

Senator Kennedy. Wliat about intrastate carriers, in terms of safety. 
Isn't that a problem ? 

Mr. Barnum. I think the safety record of the principal intrastate 
carriers is excellent. 

Senator Kennedy. But how will you make sure that is going to be 
the case in other places? 

Mr. Barnum. Well, of course, the FA A has broad authority with 
both certification of types of aircraft and maintaining the operating 



11 

status of aircraft. That is really more an FAA function. It would 
address itself to any type of aircraft being operated, I agree Avith 
you, however, that it is something we should continue to keep our 
eye on, but given that mandate to the FAA, I think we can put it to 
one side. 

Mr. Barxum. I made reference to the CAB and its procedural delay 
in deciding whether rates are reasonable. We believe the CAB should 
be required to render a final decision on rate proposals promptly. 
Also, streamlined procedures should enable the Board to dispose of 
some cases on the basis of pleadings alone, without formal hearings. 
Large-scale investigations such as the DPFI may take longer, of 
course. 

The Administration strongly supports greater pricing flexibility 
for the airline industry. We expect that our legislation will incorpo- 
rate proposals for pricing flexibility and expedited decisionmaking. 

cab's secoxd major power : industry extry and route entry 

Another major problem with the present regulatory system is the 
Board's restrictive entr}^ and exit policies. These policies have also 
restricted competition and increased costs to consumers. 

Section 401 of the Federal Aviation Act gives the CAB control over 
entry into the industry; the Board is given authority to determine 
which carriers may operate in scheduled interstate service and on 
which routes they may operate. The applicant must be found fit, 
willing, and able to perform the service properly, and the transporta- 
tion must be required by public convenience and necessity. CAB per- 
mission is also required for exit. 

In practice, industry entry has been tightly controlled. Other than 
the 16 carriers operating when the 1938 act took effect, there has not 
been a single new trunk carrier certificated in the Board's history. 
Through merger, the 16 original trunks have shrunk in number to 10 
which account for 90 percent of the total domestic market. The Board 
has. however, certified local service carriers, some of which are now as 
large as the smaller trunks. 

Until recently, and especially in the late sixties, existing carriers 
were granted applications for ncAv routes, thereby substantially re- 
ducing the number of monopoly markets. In the last few years, how- 
ever, the CAB has put into effect a de facto moratorium on route 
awards. Xew route applications have not been set for hearing; proc- 
essing applications which had ben set for hearing has ben delayed. 
The restrictive policy with respect to new carrier entry into the in- 
dustry has now been matched by a restrictive policy with respect to 
new route entry for established carriers. 

The economic result of a restrictive CAB policy is that carriers do 
not enter and leave markets solely for business and profit reasons. New 
firms are discouraged by the standards applied and by the results 
they see. including the high cost of the application process and the 
delay in Board decisionmaking. The Board has protected incumbent 
carriers rather than encouraged healthy competition. As a result, in 
the majority of trunk markets, most passengers are carried by only 
one or two airlines. 

The administration does not necessarily believe that additional 
carriers are required on every route to improve the working of the air 



12 

transportation system. We do believe, however, that the present system 
removes the ability of the carriers to adjust services and realine the 
markets they serve as economic conditions warrant. This results in 
increased costs to the public. 

The present system also does not recognize the importance of poten- 
tial competition as an economic force. Thus, the carriers on an existing 
route need not be concerned about new competition unless the Board 
has a route case pending. In such circumstances, the existing carriers 
may be less diligent in providing the type of service and price and 
quality options desired by the public than they would be if they were 
aware that a competitor could enter at any time to provide new or 
better service. 

cab's charter restrictions 

Another way of improving competition is by liberalizing charter 
rules and thereby offering the consumer a broader range of price and 
service options. 

Senator Kexnedy. Is your view consistent with the minimum 
charter floor the DOT was pushing last year ? 

Mr. Barxum. I would like to clarify the minimum charter floor. I 
believe that as a result of the hearings you held in November, efforts 
were made to portray as much controversy within the administration 
as possible, and there was a good deal of confusion. 

I think that what we were saying 

Senator Kennedy. Well, we are glad to get the real story, now. 

Mr. Barnum. At that time we were talking in the context of Ad- 
ministration's seven point action plan that was directed to the inter- 
national flag carriers. It dealt with the ways in which we could im- 
prove the economic climate and practices of Pan Am and TWA and 
those international carriers that were suffering from the economic 
circumstances of a flat or decreasing international market and huge 
fuel cost increases. We did consider among other things, the relation- 
ship between scheduled fares on the North Atlantic and charter fares. 
At that time there was still debate as to what the scheduled fares 
should be, and lATA had not yet come in with a total package for 
CAB approval. It was difficult for lATA to come in with a package 
for scheduled fares because they did not have any idea where charter 
fares would be. 

We thought that to aid lATA agreement or at least to facilitate 
informed decision by the scheduled carriers, it would be useful if there 
were from the CAB some indication of criteria for a floor, if you 
will, at which charters would operate. 

Now, what has been misunderstood here is that we were not talking 
about having a charter fare level that would permit all charter oper- 
ators, efficient and inefficient, to make a profit. What we were talking 
about was some indication as to where charter rates would be so that 
the scheduled carriers could predicate their fares in relation to the 
charter floor. 

There is a debate still raging as to the degree of CAB's authority to 
set a charter floor either by notice or proceeding, and that I think we 
best leave to the CAB and the courts to thrash out. 

Senator Kennedy. Senator Cannon has introduced the bill to make 
charter service more widely available, which I had the pleasure to join 
him on [S. 421]. Do you support that legislation? 



13 

INIr. Barnum. We are going to be testifying before Senator Cannon 
next week. We are in the process of developing onr position on that 
bill. There is much in it that we have supported in the past with 
respect to ITC's and other forms of charter. We have opposed the 
CAB proposal to drop affinity charters, and I am glad to see the CAB 
has delayed its decision in that respect. 

We do think, particularly at a time when we are interested in getting 
more people into fcAver planes, that the charter business is one way in 
which we should be able to increase low-cost transportation with sub- 
stantial savings in energy. We are, therefore, encouraged to see Senator 
Cannon and yourself and others focusing on this very important issue, 
and we will address it specifically in the next week. 

Senator Kennedy. INIr. Ginther is here, who is the staff director of 
the aviation subcommittee. So you will be seeing a lot of him next 
week. 

Mr. Barnum. The Administration believes a fundamental shift is 
required away from over-protection of existing carriers to one which 
focuses on consumer needs and requires that more weight be placed 
on competitive principles in evaluating new applications for entry. 
We also believe that the CAB should not be permitted to delay deci- 
sionmaking as a means of limiting entry. 

SMALL TOWN SERVICE (CROSS-SUBSIDY) 

Route exit has in some cases also been restrained by the CAB. 
While we recognize the importance of service to communities of vary- 
ing sizes, carriers should not be forced to lose money or operate on 
the assumption that other routes will subsidize those producing in- 
adequate revenue. Cross-subsidies are inefficient economically and in 
practice do not work. 

AVhere communities deem service essential, the carriers operate at 
a loss, and the route does not justify Federal subsidy, alternatives 
must be considered. These alternatives include replacement services by 
another carrier or subsidies by the community itself. 

In this regard, I should note that we will not propose any immediate 
changes in the local subsidy program. However, we believe the CAB 
has an obligation to identify the cost of such subsidies by route and 
by city. This has not been done. 

The Administration strongly supports liberalization of entry into 
the air carrier industry and our forthcoming proposal will provide 
for substantial entry and exit liberalization. 

CHAOS 

Senator Kennedy. How do you respond to the point that this is 
going to let a lot of fly-by-night outfits come in and skim the cream 
off the top on the most heavy traveled routes, and lead to instability 
in these major market areas? 

Mr. Barnum. Putting aside the safety question, I think that my 
comments earlier about threshold prices are my first answer. 

My second answer is you really can't startup an airline overnight 
and start providing the kind of cutthroat, cut price service that you 
are talking about. The CAB, of course, is going to have to certificate 
them as a carrier and the FAA authorize them to operate. I think it 
would be a rather fool-hardly enterprise for someone to invest, even 
on a lease basis, in the expensive equipment that would be required 



14 

to provide air transportation. It is not a business susceptible to a 
fly-by-night operation. 

Senator Kennedy. So I gather you have considered the possibility 
that instability and disruption of service might occur, and you are 
satisfied that, on that point at least, there is no real difficulty with more 
competition. 

Mr. Barnum. Yes. I am certainly satisfied in that respect. I ani also 
satisfied that, given the economics of the air carrier industry, the likeli- 
hood of a fly-by-night operation and being able to skim the cream off 
a major market in the face of already entrenched competition from 
name carriers is not very realistic. 

Obviously, it is something that needs to be watched very carefully. 
But I would not say that the activities, for example, of PSA and 
Southwest — going into the intrastate market at what was initially 
about a 40 percent cut below scheduled fares — demonstrate an unde- 
sirable result. I think it is a very good result. If that is the consequence 
of a fly-by-night entry, I would say that would be good. 

Or, for example, where carriers operate in very high density mar- 
kets, this kind of service is likely to be air shuttle-type service at which 
they have hourly service and they may or may not have a high load 
factor, depending on whether or not they have to add an extra plane 
a day. It is basically a no-frill service, and I would welcome that. But I 
would not be concerned about there being a fly-by-night entry into that 
market. 

If another one of the major trunk lines saw a market that it thought 
it could impact and enter under our relaxed entry provisions and pro- 
vide a shuttle from New York to Detroit, for instance, I think that 
would be very helpful. 

Our air carriers are very concerned as to how they can keep their 
aircraft operating. Their goal is to get up to 11 or 12 hours a day. They 
will schedule aircraft not because of where people want to go to, but 
where they can move airplanes, where they can continue using them 
into the night. For example, if they go west at a particular time of day, 
do they get there in time to be able to fly on the west coast at a particular 
time? How do they position their planes? Those are very important 
considerations in the total operation of an airline. 

To the extent you give carriers freedom of entry, or more entry than 
they have now, you will enhance their ability to use their aircraft and 
to react quickly as the market changes or, as indeed, as their competi- 
tors decide to move in or out of a market. 

But I would not regard the possibility of a fly-by-night operation as 
derogating from the services of a scheduled carrier. 

cab's third major power: antitrust immunity CAPACITY 

REDUCTION AGREEMENTS AND OTHERS 

I would like to move on to the third area where regulatory practices 
can be improved. 

One of the most objectionable features of present CAB regulation 
is the approval of capacity reduction agreements in our domestic mar- 
kets. At present, under section 412 of the Federal Aviation Act, if the 
Board finds capacity, pooling and other anticompetitive agreements 



15 

not adverse to the public interest, it may approve them ; in so doing, 
it immimizes them from action under the antitrust statutes. 

Capacity agreements were originally justified because of immediate, 
short term, severe financial distress. The Board has since permitted 
use of capacity agreements to resolve problems of unused capacity, fuel 
allocation, and low profits in certain markets. By apportioning ca- 
pacity, such agreements effectively determine market share. As a result 
of Board actions, capacity limitation agreements have proliferated to 
the point where about 29 percent of the revenue passenger miles of the 
three largest carriers are now covered by capacity agreements. One 
economic effect is that, given the level of service provided, fares in 
covered markets are excessive. One can scarcely imagine agreements 
more anticompetitive in their effect. Such problems are far better re- 
solved through market forces operating in a competitive environment. 

DOT opposed the capacity agreements before the Board and has 
joined with the Antitrust Division of the Justice Department to 
oppose approval of the agreements before the District of Columbia 
Court of Appeals. 

In contrast, some agreements arguably subject to challenge under 
antitrust laws do serve valid transportation objectives. These include 
interline agreements, airline scheduling committee agreements at con- 
gested airports, equipment leases, fuel supply agreements, reservation 
and ticketing arrangements and technical agreements with foreign air 
carriers. 

We distinguish between the two types of agreements, the one anti- 
competitive in a way w^iich contributes to economic inefficiency, the 
other which meets necessary transportation objectives. The Adminis- 
tration believes that anticompetitive agreements such as those for ca- 
pacity limitation should be restricted or eliminated but that agree- 
ments which serve efficient transportation needs should be continued. 

Senator Kennedy. If the agreements are not in restraint of trade 
then they don't violate the antitrust law in any event. These areas that 
you have outlined seem to be reasonable agreements, so why do you 
need the exemption, in any event? 

Mr. Barnum. There are some agreements between carriers that we 
think are appropriate, that either arguably or clearly might result in 
litigation. They might be regarded as allocation of market or market- 
share agreements. Some of the joint fare agreements they have could 
be regarded as price fixing or market-share agreements. 

Senator Kennedy. As I understand the lawyers, it is only if an inter- 
carrier is unreasonable, that the exemption is necessary. If it is rea- 
sonable it does not violate the antitrust laws, even though it is an 
agreement ? 

Mr. Barnum. What constitutes reasonableness under the Sherman 
Act is a very tough test to pass. Even putting aide merger agreements, 
just agreements with respect to ticketing costs or even use of airport 
at a particular time could be regarded as an anticompetitive or an 
agreement in violation of the Sherman Act. "Wliat constitutes reason- 
ableness in the Sherman Act is not what a non-antitrust lawyer 

Senator Kennedy. Would you be reassured by what the Department 
of Justice has said ? Do you think tliey have a fair opinion in temis of 
the governmental policy, and that their input would be guided by the 
legal arm of the Government? 



16 

Mr. Barnum. I would be very pleased to have their input. I do not 
think, however, you would find any disagreement between us as to 
the meaning of reasonableness insofar as agreements between competi- 
tors is concerned. So far as existing law requires, I think you will find 
there is agreement. 

However, we distinguish the two types of agreements, and I will 
say we should continue antitrust immunity for certain types of agree- 
ments. In our judgement, however, the airline industry is strong 
enough to survive and prosper without blanket antitrust immunity. 

Section 408 of the act authorizes the Board to approve mergers. 
Mergers may be permitted unless the Board finds that they will be in- 
consistent with the public interest, would create a monopoly and 
thereby restrain competition, or would jeopardize another nonpaity 
carrier. In our view, the standard used by the Board in determining 
whether mergers or consolidations are approved should be changed to 
require that competitive principles be weighed against transportation 
needs. 

In dot's filings to date, we have encouraged the CAB to find less 
anticompetitive solutions to many of the problems I have discussed. 
It is now clear that more decisive reform is necessary. In times of 
inflation, recession, and energy difficulties, the Nation can ill afford the 
extravagances created by the present air regulatory system. The 
administration proposal will get to the heart of the difficulties in each 
of the areas discussed by changing the regulatory structure which 
helped produce them. The air regulatory reform bill which we will 
present will address each of these issues in detail and will implement 
the basic policy objectives which I have outlined in my testimony. 

We look forward to working with the subcommittee to explore each 
of these areas in more detail. We share the desire to modernize our 
regulatory structure and let the fresh air of competition make our 
transportation industry operate more efficiently at lower cost to the 
consumers we serve. 

Thank you very much, Mr. Chairman, and if I can answer any 
additional questions, of course, I would be more than pleased to try to 
do so. 

Senator Kennedy. Well, we want to thank you for your presenta- 
tion, and I think it is really an indication of the desire of the Depart- 
ment of Transportation to carry forward what President Ford out- 
lined in his state of the Union address in identifying the regulatory 
agencies as a matter of concern, and trying to make them more effec- 
tive, and obviously, as far as your Department is concerned, you are 
willing to move ahead in these directions even prior to the time of the 
development of a commission to deal with it. I think that that is really 
a credit to the De^^artment. 

Mr. Barnum. Thank you. 

NEED FOR LEGISLATION 

Senator Kennedy. Let me ask you — are you satisfied these steps can 
be taken without new le<rislation? 

Mr. Barnum. I think that new legislation would accelerate the steps 
that we have outlined. Most of the things that we have discussed could 
be done by the Board — to approach entry and exit, for instance — dif- 



17 

ferently than it is done. Certainly, in our judgment, the Board has 
authority to provide greater price flexibility than it has in the past, 
I think in general they could do much of what we recommend under 
existing law. 

Senator Kennedy. Is there anything they could not do under their 
existing statute? 

Mr. Barnum. No; I think they could adopt as Board practice, if 
you will, the time limits that we have suggested with respect to entry 
and exit and rate changes. They have not. As I stated, some of the 
proceedings have been unnecessarily protracted or put on the shelf, 
which has frustrated much of the innovation that we think is avail- 
able to the industry. 

I would urge this subcommittee — if you find the Congress is not 
prepared to make substantive amendments to the act — to point out 
ways in which you believe that the existing law and the practices 
appropriate under the existing law liave, in fact, not been followed. 

Senator Kennedy. "Why do you not think that the CAB has seen the 
problem the way that you have seen it here and moved on its own into 
these particular areas? You have no monopoly or expertise or under- 
standing of these particular issues. What is your view about why they 
have not moved into these particular areas before ? 

Mr. Barnum. Well, as I mentioned in my statement, the CAB 
evolved from an aq-ency that was established to encourage a new indus- 
try as it was growing, an industry which required a certain amount of 
encouragement and protection, and which required a certain amount 
of regulation so that there Avould not result, in its early days, the type 
of cutthroat competition which you have described or the type of fly- 
by-niijht entry into the marketplace. But T think now that the industry 
is stabilized. Nonetheless, many of the things "v\e think the CAB should 
do differently it is continuing to do the same way it did when the 
industry was developing. The way they address a problem today is 
the way they addressed it 10 years ago. I think we have gone past the 
point where we should continue business as usual with respect to the 
air carrier industry. 

APPOINTMENT OF CAB MEMBERS 

Senator Kennedy. Do you think part of the problem has been the 
appointment process, the selection of people that have been selected 
and have had a strong orientation toward the industry, perhaps? 

What role, if any, does the DOT' have in making recommendations 
for the CAB? 

I am not trying to personalize this, but I am interested in what your 
impression would be, not limited to any particular administration, but 
just as a practice. 

Mr. Barnum. AVell, I share A^our concern in this respect. I think that 
I would judge the CAB by its rules and not by its personalities. 

I think that the Board could be a more effective instrument in the 
regulation of air transportation, and it may very well be that those 
who constitute the Board are an essential ingredient in making it more 
eft'ective. I think it is, in part, the tradition into which each new mem- 
ber of the Board steps as he joins the Board and finds out the way 
they have done things in the past and the rules of the past. And I think 



51-146 O - 76 - pt. 1 - : 



18 

the CAB is guided in part by stare decisis, its own decisions in the 
past, A new member has not been given a mandate by Congress to 
change what the Board has been doing in the past. 

For someone to join the CAB, and to go in there and say, "No; that 
is all wrong, the statute means otlierwise'" — I think he would be trying 
to upset a great deal that the courts have written about and the Board 
has written about, and certainly, as a newcomer he would feel he had 
better find out how the Board works, 

1 think also the Board has been concerned about continued prosper- 
ity in the air industr}', and properly so. To the extent that it has put 
siich great emphasis on that, however, I think that lias been a mis- 
take. I think making a goal of 12 percent return on investment as a 
principal guiding factor in Board decisions is a mistake. I would be 
much more interested in seeing the Board trying to focus more on 
increasing load factors in its pi"icing decisions and as a result both 
saving energy and mailing the carriers more profitable. 

With respect to our role in the Department as to who goes on the 
CAB, we are consulted, of course, by the "\ATiite Plouse in connection 
with CAB appointments and asked for recommendations and asked to 
comment on people that have been recommended by others. 

Senator Kennedy, Are you listened to over there ? 

Mr. Barxum. I think so. 

Senator Kennedy. Good. 

As the result of our November hearings, the staif marie some sug- 
gestions wdth regard to procedures in establishing a minimum rate 
policy, and I understand you had some people looking at these recom- 
mendation and determining how they might be implemented. T am 
just wondering if you are prepared to say anything about that today? 

Mr, Baknum. Not at this time, sir. 

Senator Kennedy. ^\^ill you let us know at the earliest possible time 
what are your reactions to those recommendations? 

Mr. Barnuim, I would like to advise you promptly or as promptly as 
I can just what our timing is with respect to commenting on those 
recommendations. 

[The comments referred to are contained in a letter from DOT to 
Senator Kennedy which is printed at the end of Mr. Kutkze's testi- 
mony on February 18, 1975, See below, pp. 691-92.] 

Senator Kennedy. I suppose on the matters that you have mentioned 
here this morning, which are extremely significant, that you will be 
developing those proposals and reconnnendations in greater detail? 

Mr. Barnum. Yes. 

Senator Kennedy. Will you keep us informed how those are being 
developed ? 

Mr. BARNu:\r. We are in the process of discussing with the other 
agencies of the executive branch the various details of the three main 
areas that I have outlined to you. I would hope that we could continue 
to hnve the dialog betAveen our several agencies and vour staff and Mr. 
Ginther and the staff of the Commerce Committee. We want to achieve 
somethin<i that is meaningful and realistic in terms of positive enact- 
ment and that will addr-ess the basic issues that we see. 

Senator Kennedy. Well, we ha-^-e enjoyed that cooperation in the 
past, and A^e have no reason to feel that it would not continue in the 
future. For that, we are very appreciative. T think it is a strong indica- 
tion of the ability of the Congress to work with the administration 



19 

and the agencies. We appreciate that and we have found it very in- 
fo raiative and very helpful. 

I want to thank you very^ much. That has been a good presentation. 

]Mr. Barnum. Thank 30U, INlr. Chairman. 

Prepared Statement of John W. Barnum 

Thank you for your invitation to present the views of the Administration on the 
important subject of regulation of air transportation and how it can be improved. 

The Department is vitally interested in the issue. Since DOT'S inception in 
1967, we have participated in many proceedings before the Civil Aeronautics 
Board. In our Board filings, the Department has been a strong advocate of im- 
proving the economic performance of air transportation through increased re- 
liance on competitive market forces. The unifying theme that runs through vir- 
tually all of our filings before the CAB is that greater reliance on competitive 
market forces will improve the economic performance of the industry and result 
in lower, more cost related rates, will reduce excess capacity and will provide 
the air traveling public with a wider and more desirable range of service and 
price options. 

I believe we are now at a regulatory watershed. For the past several months, 
the administration has been reviewing the transportation regulatory system with 
a view to improving both performance and economic efiiciency. The reform pro- 
posals presently being prepared by the administration mark a major departure 
from the regulatory regime we have relied upon in the past. The administration 
will submit to Congress in the near future a proposal which will fundamentally 
redirect our air transportation regulatory policy. Your hearings, therefore come 
at an opportune moment. Today I will outline the administration's position on 
regulation of air transportation. 

The need for an air regulatory reform act is demonstrated both by economic 
research and by our experience. At present, for example, air carriers, shippers, 
and passengers frequently face a web of restrictive government regulations which 
stifle competition, discourage innovation, and foster inefficiency. In many respects, 
the present air regulatory structure is outdated, inequitable, inefficient, uneco- 
nomical and irrational. It often misplaces incentive and disincentive, distorts 
competitive advantage, protects ineflScient carriers from effective competition, 
over-restricts market entry, artifically inflates rates and misallocates our Na- 
tion's resources. Under the current system, many consumers pay an artificially 
inflated price for air transportation because ratesetting, unnecessary entry re- 
strictions, capacity agreements and other forms of shelter from competition sanc- 
tioned by the Board protect the least eflScient carriers, permit rates substantially 
above an eflScient cost level and distort competitive market forces. The resulting 
economic waste and associated inefficiency is substantial. 

The present air regulatory system is the product of a different era. While the 
needs and conditions on which air regulation was first predicated some 40 years 
ago have changed, the goals and practices of government regulation have not. It 
is unfortunately a truism that regulation begets further regulation and that regu- 
lations outlive their rationale. 

In 1938, when the Civil Aeronautics Act was passed, government assistance 
through protection, subsidy, promotion and regulation was a necessary factor in 
the development of a new and struggling industry. Thirty-seven years later, con- 
ditions have changed. The air travel market is mature. Traffic has grown. Growth 
has led to stability. The industry is vigorous. But the regulatory system which 
protected it and made it that way has not kept pace. 

The problems once faced have been largely solved. Now we are faced with prob- 
lems that are a byproduct of that success. The promotion which once fostered 
growth now causes inefficiency. The restriction which once guaranteed stability 
now retard competition. The regulatory protection which once insured existence 
now prevents savings. 

We need a better system which comes closer to producing optimum social and 
economic results, one which maximizes efficiency, economies and consumer op- 
tions and which produces the best mix between low-cost and hisrh-quality service. 

The most pressing problems in the airline regulatory field cluster in three broad 
areas : ratemakins: and pricing flexibiUtv, market entry and exit, and anticom- 
petitive agreements. Each area is in need of reform. Let me identify what we see 
as the major difficulties involved, the actions DOT has taken, and the future 
direction which the administration suggests. 



20 

A major difficulty with CAB policy has been ratemaking and the carrier in- 
ability to raise and lower rates in response to the demands of the marketplace. 
This in turn forces carriers into costly and uneconomic service competition, de- 
prives the traveling public of the range of price/service options which would 
otherwise be available, and results in substantial economic waste and inefBciency. 

Section 404 of the Federal Aviation Act requires carriers to establish just 
and reasonable rates. Section 1002 permits the Board to prescribe maximum or 
minimum rates if it is of the opinion that the rates charged are unjust, unreason- 
able, preferential or discriminatory. In deciding whether a rate is too high or 
low the Board takes into account, among other factors, whether the fare is com- 
pensatory, providing the carrier with sufficient revenue. 

The result of the Board administration of these sections has been the elimina- 
tion of price competition, thereby restricting competition to service. Passengers 
find airlines competing for their patronage through elaborate cuisine, free drinks, 
attractive stewardess, multicolored planes, and piano bars. But they do not have 
a menu where different quality service is related to different prices. This is a 
serious loss. 

Many passengers would prefer the opportunity to select carriers based on price 
in addition to type of service. Some passengers would prefer high load-factor, 
low-frill, low-fare service. Others are willing to pay for more comfortable and 
more costly service. Present procedures do not produce that variety of price/ 
service options. Often, present regulation causes fares well above those which 
would result in a more competitive air transportation market. With prices fixed 
at levels above market rates, carriers compete on the basis of service. Such serv- 
ice competition produces substantial unused capacity and unnecessary low load- 
factors, presently averaging about 57 percent. In the transcontinental market, 
for example, rates are set sufficiently high to permit the carriers to earn a rea- 
sonable return with load factors in the mid-40 percent range. DOT believes that 
many transcontinental passengers would prefer the minor inconveniences asso- 
ciated with higher load factors in return for less expensive tickets. In a more 
competitive market, carriers would respond by providing such low cost service. 

One recent study showed that at an average load factor of 7.5-percent prices 
could be 27 percent lower than at a 50-percent load factor. While 75-percent load 
factors are higher than DOT has recommended in most markets, this example 
illustrates the potential savings associated with pricing flexibility. 

Present Board policies encourage lower than optimal load factors. DOT's 
testimony in the CAB's Domestic Passenger Fare Investigation (DPFI) showed 
that when load factors increase beyond a break-even level (defined to include 
profits), carriers schedule additional capacity, thereby lowering load factors to 
the break-even level again. 

Because of this inflexibility, in the Domestic Passenger Fare Investigation. 
DOT, among other things, urged the Board to establish a 15-percent "zone of 
reasonableness" above and below the fare structure curve. The zone would not 
apply in monopoly markets, as defined by the CAB, where the Board would 
continue to review and suspend rates. Within the zone, carriers would be per- 
mitted to compete on the basis of price, free from regulatory interference. Out- 
side the zone, the Board could continue to suspend rates it believed unlawful 
under its ratemaking standards. The limits of the zone ensure that neither 
dramatic price increases nor destructive price wars would ensue. The Depart- 
ment position rested on the premise that greater reliance on market forces 
would result in the establishment of rates based on costs and would afford the 
public a wider and better range of price/service options. We emphasized that the 
lack of price competition in the air industry was the primary cause of "seat 
wars" and other service competition which resulted in undue unused capacity, 
inflated cost levels, and too rapid obsolescence of equipment. 

In its DPFI decisions, the Board did recognize that fares should be more 
closely aligned to costs. It largely adopted our conclusion that low fares for 
short-haul pnssengers should not be subsidized by higher fares for long-haul 
passengers. The Board was unwilling at that time, however, to adopt the broader 
principle of pricing flexibility, constrained only by costs. 

Another procedural problem associated with nririnsr is CAB deiav in deciding 
whether rates are reasonable. We believe the CAB should be required to render 
a final decision on rate proposals promptly. Also, streamlined Procedures should 
enable the Board to dispose of some cases on the basis of piead'n.n'c alone, with- 
out formal hearings. Large scale investigations such as the DPFI may take 
longer, of course. 



21 

The administration strongly supports greater pricing flexibility for the airline 
industry. We expect that our legislation will incorporate proposals for pricing 
tlexibility and expedited decisionmaking. 

Another major problem with the present regulatory system is the Board's 
restrictive entry and exit policies. These policies have also restricted competition 
and increased costs to consumers. 

Section 401 of the Federal Aviation Act gives the CAB control over entry into 
the industry; the Board is given authority to determine which carriers may 
operate in scheduled interstate service and on which routes they may operate. 
The applicant must be found fit, willing, and able to perform the service properly, 
and the transportation must be required by public convenience and necessity! 
CAB permission is also required for exit. 

In practice, industry entry has been tightly controlled. Other than the 16 
carriers operating when the 1938 Act took effect, there has not been a single new 
trunk carrier certificated in the Board's history. Through merger the 16 original 
trunks have shrunk in number to 10 which account for 90 percent of the total 
domestic market. The Board has, however, certified local service carriers, some 
of which are now as large as the smaller trunks. 

Until recently, and especially in the late sixties, existing carriers were granted 
applications for new routes, thereby substantially reducing the number of mono- 
poly markets. In the last few years, however, the CAB has put into effect a de 
facto moratorium on route awards. New route applications have not been set for 
hearing ; processing applications which had been set for hearing has been delayed. 
The restrictive policy with respect to carrier entry has now been matched by a 
restrictive policy with respect to route entry. 

The economic result of a restrictive CAB policy is that carriers do not enter 
and leave markets solely for business and profit reasons. New firms are dis- 
couraged by the standards applied and by the results they see, including the high 
cost of the application process and the delay in Board decisionmaking. The Board 
has protected incumbent carriers rather than encouraged healthy competition. 
As a result, in the majority of trunk markets, most passengers are carried by only 
one or two airlines. 

The administration does not necessarily believe that additional carriers are 
required on every route to improve the working of the air transportation system. 
We do believe, however, that the present system removes the ability of the car- 
riers to adjust services and realine the markets they serve as economic conditions 
warrant. This results in increased costs to the public. 

The present system also does not recognize the importance of potential compe- 
tition as an economic force. Thus, the carriers on an existing route need not be 
concerned about new competition unless the Board has a route case pending. In 
such circumstances, the existing carriers may be less diligent in providing the 
type of service and price/quality options desired by the public than they would 
be if they were aware that a competitor could enter at any time to provide new 
or higher quality service. 

Another way of improving competition is by liberalizing charter rules and 
thereby offering the consumer a broader range of price and service options. 

The administration believes a fundamental shift is required away from over- 
protection of existing carriers to one which focuses on consumer needs and re- 
quires that more weight be placed on competitive principles in evaluating new 
applications for entry. We also believe that the CAB should not be permitted to 
delay decisionmaking as a means of limiting entry. 

Route exit has in some eases also been restrained by the CAB. While we recog- 
nize the importance of service to communities of varying sizes, carriers should 
not be forced to lose money or operate on the assumption that other routes subsi- 
dize those producing inadequate revenue. Cross-subsidies are ineflBcient econom- 
ically and in practice do not work. 

W^here communities deem service essential, the carriers operate at a loss, and 
the route does not justify federal subsidy, alternatives must be considered. These 
alternatives include replacement services by another carrier or subsidies by the 
community itself. 

In this regard, I should note that we will not propose any immediate changes 
in the local subsidy program. However, we believe the CAB has an obligation to 
identify the cost of such subsidies by route and by city. This has not been done. 

The administration strongly supports liberalization of entry into the air car- 
rier industry and our forthcoming proposal will provide for substantial entry 
and exit liberalization. 



22 

One of the most objectionable features of present CAB regulation is the ap- 
proval of capacity reduction agreements in our domestic markets. At present, 
under section 412 of the Federal Aviation Act, if the Board finds capacity, pooling 
and other anticompetitive agreements not adverse to the public interest, it may 
approve them ; in so doing, it immunizes them from action under the antitrust 
statutes. 

Capacity agreements were originally justified because of immediate, short-term, 
severe financial distress. The Board has since permitted use of capacity agree- 
ments to resolve problems of unused capacity, fuel allocation, and low profits in 
certain markets. By apportioning capacity, such agreements effectively deter- 
mine market share. As a result of Board actions, capacity limitation agreements 
have proliferated to the point where about 29 percent of the revenue passenger 
miles of the three largest carriers are now covered. One economic effect is that, 
given the level of service provided, fares in covered markets are excessive. One 
can scarcely imagine agreements more anticompetitive in their effect. Such prob- 
lems are far better resolved through market forces operating in a competitive 
environment. 

DOT opposed the capacity agreements before the Board and has joined with 
the Antitrust Division of the Justice Department to oppose approval of the agree- 
ments before the District of Columbia Court of Appeals. 

In contrast, some agreements arguably subject to challenge under antitrust 
laws do serve valid transportation objectives. These include interline agreements, 
airline scheduling committee agreements at congested airports, equipment leases, 
fuel supply agreements, reservations and ticketing arrangements, and technical 
agreements with foreign air carriers. 

We distinguish between the two types of agreements, the one anticompetitive 
in a way which contributes to economic inefficiency, the other which meets neces- 
sary transportation objectives. The administration believes that anticompetive 
agreements such as those for capacity limitation ."-hould be restricted or eliminated 
but that agreements which serve efficient transportation needs should be 
continued. 

Section 408 of the Act authorizes the Board to approve mergers. Mergers may 
be permitted unless the Board finds that they will be inconsistent with the public 
interest, would create a monopoly and thereby restrain competition, or would 
jeopardize another nonparty carrier. In our view, the standard used by the Board 
in determining whether mergers or consolidations are approved should be changed 
to require that competitive principles be weighed against transportation needs. 

In DOT'S filings to date, we have encouraged the CAB to find less anticompeti- 
tive solutions to many of the problems I have discussed. It is now clear that more 
decisive reform is necessary. In times of inflation, recession and energy difficul- 
ties, the Nation can ill afford the extravagances created by the present air regula- 
tory system. The administration proposal will get to the heart of the difficulties 
in each of the areas discussed by changing the regulatory structure which helped 
produce them. The air regulatory reform bill which we will present will address 
each of these issues in detail and will implement the basic policy objectives which 
I have outlined in my testimony. 

We look forward to working with the subcommittee to explore each of these 
areas in more detail. We share the desire to modernize our regulatory structure 
and let the fresh air of competition make our transportation industry operate 
more efficiently at lower cost to the consumers we serve. 

Senator Kkxxedy. Our second witness. Mr. Eiicrman. since February 
1973. has served as chairman of the Federal Trade Commission. ITe 
has directed particular attention to the asrency's responsibilities in the 
area of antitrust laAv enforcement. He is outspoken on recfulatory 
reform, and we are anxious to have his views on CAB regulation. 



STATEMENT OF LEWIS ENGMAN. CHAIRMAN, 
FEDERAL TRADE COMMISSION 

Thank you, Mr. Chairman. 

Last year in November when I was asked to present the Federal 
Trade Commission's vieAvs on governmental restraints in the market- 



23 

place, I expressed concern that, like so many fashionable topics, it 
would be the subject of much discussion but little action. It is grati- 
fying, therefore, to know that concern with this vital subject has con- 
tinued into the Mth Congiess, and I commend this committee for its 
role in continuing the inquiry. 

At a time when rising prices threaten the welfare of every American, 
it would be folly indexed, if we were to fail to address this one area 
where such large efficiencies appear to be available to us without off- 
setting economic costs. 

I am, therefore, pleased to be here, Mr. Chairman, and to have this 
opportunity to offer my views on Federal regulations affecting the 
airline industry. 

Senator Kennedy. You have an extensive statement here, and I want 
you to proceed in whatever way you feel comfortable, but if you want 
to highlight it or summarize it, t think, that will be helpful. 

Mr. Engman. I normally do that, Mr. Chairman, and I think this 
Avill not take long. 

Lest someone else feel compelled to say it for me, I must state at 
the outset that I am no expert on the technical aspects of the airline 
industry. I suggest, however, that one need be no expert to perceive 
that something is amiss with the Avay the Government currently con- 
strues its responsibility toward the American consumer of air 
transportation. 

As spokesman for an agency broadly charged with insuring that the 
consumer receives the best that the marketplace can provide for him, 
I find this situation disturbing. 

The Fedeial Trade Commission is committed to the principle that 
people are best served by the effective operation of a free and com- 
petitive open market. 

Today, those conditions are conspicuously absent in our airline 
industry. They are absent because, over 35 years ago, the Congress, 
after examining the needs of a then infant industry struggling to raise 
capital, decided that the public welfare demanded an exception to the 
principle of competition — demanded that the airline industry be given 
partial immunity from the antitrust laws and from the rigors of price 
competition. The arguments mustered in support of that decision were 
essentially two : That it was necessary to insure the industry against 
cutthroat competition, and that it was necessary to provide service 
to localities which would not otherwise receive it. 

I was not around at that time. I did not hear the arguments made for 
and against what was done. But \yhatever arguments were made at 
that time and whatever industry conditions they reflected as you indi- 
cated, should be of little consequence to us today. For the relevant 
question now is, where has it all brought us ? 

There can be little doubt that much of what was intended has been 
achieved. Wliether it is because of, or in spite of, regulation, I do not 
know, but today we have beyond question the most comprehensive air 
transportation network in the world. Moreover, despite the current 
depleted condition of several of our major carriers, the industry over 
the years has been characterized by extraordinary stability. 

SERVICE COMPETITION AND EXCESS FLIGHTS 

But these objectives have been achieved at a very high cost. Our 
system, which severely inhibits price competition and restricts entry, 



24 

has led to a fare structure on many routes which economists a^ree is 
far hig;her than that which would prevail if the industry were charac- 
terized by price competition and free entry. Several conditions flow 
from this fact. 

The absence of any real price competition coupled with higher than 
competitive rates leads to large amounts of nonprice competition. One 
important type of nonprice competition is in terms of frequency of 
flights. This in turn leads to large amounts of excess capacity. It is 
not unusual today for several planes to fly almost identical schedules 
each with a small fraction of its seats filled on some flights. 

Senator Kennedy. That makes two of us. I have done a lot of flying. 

I just found that out last Thursday evening when I was flying to 
San Francisco. There were two major flights within 5 minutes of each 
other, both going nonstop to San Francisco from Dulles Airport. 
Noticing that we had these particular hearings, I looked at both of 
them, and the first class in both were full and the rest about one-third 
full, and they landed within 5 minutes of each other. I have a staff 
assistant who is consultant for our Health Committee, who makes the 
trip once a month, and he has been doing a little informal review of this 
as well, and has found the exact same thing. He finds it going both 
ways. The point is well made. 

Mr. Engman. I have noticed the same situation. It is also true with 
other pairs of markets ; Chicago, for instance. 

In short, what we have is economic waste — the classic cost-plus syn- 
drome. The air passenger who finds himself next to an empty seat may 
be pleased with this state of affairs. He is able to spread out a little. 
But I wonder how pleased he would be if he were aware that he had 
paid not only for the seat he was sitting in, but for the seat his briefcase 
was sitting in, too. 

In addition, fixed rates have created a sort of phony war, a war in 
which airlines compete for business, not on the basis of price, but on 
the basis of scheduling and comfort. All of us today have standing 
invitation to fly Cheryl or Karen or Trixie or even Bruce. Those invita- 
tions are no more or less than confessions on the part of the airlines 
that our decision as to Avhich to fly ]:)retty much boils down to whether 
Cheryl is more attractive than Bruce. 

This bogus competition along with creature comforts and the pres- 
sure to raise the number of flights can be explained by the simple eco- 
nomics of the airline industry. We start with an increase in fares. In 
the absence of price competition, each airline tends to compete away 
the "profits" from the fare increase by engaging in various forms of 
increased nonprice competition. 

More frills are added. Witness the great free-drink battles of recent 
times or the lounge wars of some time back. Often flight frequencies 
are also incrensed. Unfortunately, this tends to reduce overall load fac- 
tors on all the planes. Rates of return go down, and soon we are told a 
new fare increase is "required" to maintain the existing rates of return. 
The whole nonj^roductive cycle starts all over again. 

ANALOGY TO SECURITIES INDUSTRY 

The situation is analogous to that which existed in the securities in- 
dustry a few years ago when it was operating on fixed rates across the 
board. Since brokerage houses could not offer the customer lower rates. 



^25 

they offered frills — counseling services and the like. The brokerage 
houses argued that these frills were Avorth the extra money, but the 
institutional investors knew better, and they made the brokers give 
them the equivalent of rebates under the table. The American consumer 
of air transportation does not have that power. I wonder how he would 
act if he did. 

Comfort and scheduling are undoubtedly worth something to con- 
sumers. But are they worth the price he must pay for them? Obviously, 
they are worth nothing to those who cannot afford to fly because of the 
high prices. There is evidence which suggests also that they are not 
worth it even to those who can and do fl}'. If it were true, given the 
choice, some people would choose to pay the higher rates for deluxe 
or frequent service, why does the industry and the Government shy 
away from giving them that choice? For surely that has been the pat- 
tern in recent years. 

RESTRICTIOXS OX CHARTERS 

Our current system of regulation has prevented the entry of new 
carriers walling to fly for less. And it has frustrated charter operations 
willing to lay on "barebone" service at a fraction of the going rates. 

It is argued that these limitations are necessary to prevent so- 
called undue diversion from the scheduled carriers. We can recognize 
that argument for what it is. "Diversion" would not occur if people 
thought frequent flights and frills were worth the price. 

Do not misunderstand me. I have nothing against Cadillacs. But 
I question the equity of a system that forbids the sale of Pintos. And 
I also wonder about a system which permits producers of a "big 
ticket" item like air transportation to avoid the issue of price except 
when it is to tell the consumer that a special rate awaits him if he is 
leaving on a Wednesday morning, i)lans to remain at his destination 
for precisely 53 days, is carr\'ing no luggage, and is a charter member 
of the Flat Earth Society. 

COST OF REGULATION 

It may be impossible to get a precise measure of how much our system 
of regulation actually costs the airline customer and the American 
public. But we can get a rough idea from examining prices in those few 
markets where regulated carriers face competition from intrastate 
carriers not subject to Federal regulation. Tavo such markets currently 
exist in California and Texas, as the acting Secretary indicated, and 
you have doubtless already heard and read much about them. Suffice it 
to say that the unregulated intrastate carrier entered the market with 
substantially lower fares in each instance. In the case of Texas, the 
price differential remains today with the result that consumers are 
offered a lower cost alternative — offered it, I might add, by a financi- 
ally successful airline. Southwest Airlines. In the case of "California, 
the low-cost competition offered by Pacific Southwest Airlines forced 
the interstate carriers to appeal for and finally to get from the Govern- 
ment permission to lower their rates to the level of the competition. 
But you need only step across the State line to appreciate the local 
character of this consumer benefit. It still costs much more to fly the 
226 miles from Los Angeles to Las Vegas than it does to fly the 347 
miles from Los Angeles to San Francisco. 



26 

The cost to the consumer of continued regulation is suggested also 
by a 1972 economic study in which the costs of airline operations were 
compared with fares for flights between 30 different pairs of cities. 
These comparisons showed that, in markets where there was no com- 
petition from an unregulated carrier, fares exceeded costs, costs being 
defined to include a 7.5 percent return on investment, from 47 percent 
to 8-4 percent. Since, with competition, fares could be expected roughly 
to parallel costs, this wide variation would seem to suggest that 
the experiences in Texas and California do not reflect unique 
circumstances. 

These then are at least some of the costs that have been imposed on 
the public in stressing stability and comprehensive service. Whether 
one has been worth the other is a policy question which Congress 
should consider. 

But any weighing of costs and benefits surely should be preceded by 
a close examination of their relationship. For it can be argued that 
many of the costs incurred were not necessary to the attainment of the 
benefits intended. 

SMALL TOW^N SERVICE (CROSS-SUBSIDY) 

Consider first the benefit of comprehensive service — that is, service 
to parts of the country where traffic is too light to support a scheduled 
airline. It is often argued that high fares on heavily traveled routes 
are needed to subsidize losses on sparser runs which the regulated 
carriers are required to fly. I frankly have to tell you I do not know 
how much of this "cross-subsidization'' actually occurs, but assuming 
that there is some, it has the effect of putting tlie entire industry on a 
de facto cost-plus system of return, a system which experience has in- 
dicated is a very poor check on inefficiency. Also, requiring one air 
passenger to subsidize the flight of another raises a serious question of 
equity. If it is a desirable thing to have air service between two small 
towns, why should only one class of citizens be asked to bear the cost 
of it? 

Finallv. the svstem raises the question of resource allorntion. for 
there can be no question that a subsidy paid from high fares on heavily 
traveled routes causes misallocation of resources. 

Higher fares on denser routes inhibit travel on those routes. The 
"right" amount of air travel on those routes would be the amount 
which people would buy at a price which just covered all costs of pro- 
viding the service. Higher prices will cause them to buy less than that 
amount. And the resulting loss to society is the same as it would be 
had the higher price been the result of private price fixing or 
monopoly. 

I express no view on the question of whether some flights should be 
directly subsidized. I suggest simply that if we are to have a system 
under which some people subsidize service to others, we should, at the 
very least, be able to identify its costs so that we can intelligently 
examine alternate forms of subsidy and so that we can periodically 
reassure ourselves that the benefits are worth the costs. 

DESTRUCTIVE COMPETITION 

The other pillar— in addition to comprehensive service — on which 
our current regulatory system stands is the need to prevent "cut- 



27 

throat'" competition which could threaten the industry's stability and 
perhaps result in a single-firm monopoly. 

This has not happened in California, and I see no reason to expect 
that it would be a general problem. 

The number of firms present in any industry depends largely on 
whether there are large economies of scale relative to market demand. 
If there are, there will be only a few firms in the industry. In the 
most extreme cases, there may be only one. 

But the airline industry does not have large economies of scale. 
The basic unit of production is the airplane itself. Economic studies 
indicate that an efficient airline can be run with only a few of them. 
They can be — and are — easily shifted from one route or one carrier to 
another. 

Single firm service may emerge on some lightly traveled routes be- 
cause of the small size of the market. But it is doubtful that such firms 
could charge monopoly prices because of the constant threat of entry 
by other firms, if it were permitted. The ability to shift planes easily 
from one market to another makes the threat of entry quite credible 
in this industr^\ 

Much of what I have just said you have doubtless heard from 
others. The question is, "what do we do about it ?" 

CAB asks airlines for data on their liquor costs. I know what they 
are doing. 

That is one of the purposes of these hearings, and because the 
answer to the question of what we can do about it is really not all that 
clear, perhaps, but there are two points, Mr. Chairman, which are 
quite clear to me. 

First, I believe that no one is going to be able to provide a complete 
answer until we have a better accounting of the costs and benefits of 
the current system. At present, neither the Federal Trade Commis- 
sion, nor the Congress nor the American public has any idea of what 
the current system of regulation costs or what it produces. My interest 
in this question as a Federal official is not as important as my interest 
as an air traveler — incidentally, with three young sons — and as a tax- 
payer since I, along with millions and millions of other Americans, 
am paying the bills. 

COST OF REGULATIOX 

Senator Kennedy. You cannot really tell how much they would 
save the consumer ? 

INIr. ExGMAX. The precise number is one which is beyond our ability 
to knoAv. As you. ]Mr. Chairman, cited a study which I have cited iii 
the past, the question of $17-$18 billion range, that has been cited 
across the board, that of course includes surface transportation, too, 
studies indicating the range from 48-84 percent overcharging on the 
30 selected flights indicated there, and certainly we are talking about 
hundreds of thousands and probably millions of dollars each year. 

I think in terms of specifics as to some of these cost questions, such 
as to whether or not how much do we really know, how much cross 
subsidies do we really have going on, or is this a kind of issue that 
has just been raised to tend to confuse the issue would be helpful, and 
we have to work to continue to improve the information we have 
available to us. 



28 

Senator Kennedy. Do you have the ability or does the Federal 
Trade Commission have that kind of ability, to develop figures on 
this? 

Mr. Engman. We have a large staff of economists, Mr. Chairman, 
who are kept busy by a number of investigations and studies which 
the Congress asks us to undertake, primarily in the antitrust enforce- 
ment area. We do not have immediate access to some of the data that 
the Civil Aeronautics Board does. But to the extent Congress, in terms 
of providing us with resources and money, are interested in us pro- 
ceeding with the further investigation so some of these economic ele- 
ments, speaking for myself, and I am sure on behalf of the Commis- 
sion, would be more than happy to comply. 

That is the first point and the data point. 

Second, in terms of what I am clear about in answering this ques- 
tion of what we should do. my experience has led me to conclude that 
the free enterprise system is the best regulator of all. I can see nothing 
about the airline industry which would suggest to me that in 1975, 
Government regulation of the airline industry is providing the con- 
sumer with more for his money than the free market would provide. 
Therefore, I suggest you listen to proponents of regulation with an 
open mind, as I have done. But I submit, giveii the conditions that 
exist today in the industry and in regulated industries in general, 
that the competitive market should be made the point of departure 
for the debate and that the burden of proof should rest with those 
who argue against competition rather than those who would return 
to it. The burden should also be on those who, in the name of reform, 
stop short of this goal. 

There will be doomsayers who will forecast the direct consequences 
of deregulating rates and entry. Typically, they will be based on the 
reductio ad absurbum case in which at 12 :47 on a Wednesday after- 
noon, we shift from total regulation to open competition. It need not 
occur that way. If the Congress were to determine that a move in the 
direction of the free market were warranted, it could easily enough be 
accomplished in stages. There is ample precedent. Several years ago 
the SEC was looking at an analogous situation in the securities in- 
dustry. Brokers then operating on a fixed rate basis argued bitterly 
that negotiated rates would be a disaster. The SEC rejected that argu- 
ment and decided to move ahead, not all at once, but on a staged basis. 
Beginning with purchases of over $500,000, rates were left to the 
forces of the market. 

SAFETY AND COMPETITION 

Senator Kennedy. But you did not really have the issue of life, 
sustaining your industry. If you made a mistake in tliat, it was just a 
matter of brokers' fee. Here in terms of safety it is people's lives. 

Mr. Engman. We are not talking about safety. I am talking about 
the Civil Aeronautics Board. The requirements for safety are handled 
by the Federal Aviation Administration. If I agree with what I have 
read in the papers, perhaps there ought to be some tightening up of 
regulation over there, wliich is under the jurisdiction of the Depart- 
ment of Transportation. But that kind of safety regulation which we 
are all in favor of, the traveling public, does not come under the 
jurisdiction of the Civil Aeronautics Board. 



29 



THE POSSIBILITY OF CHAOS 



Senator Kennedy. With the newer, costly equipment and the addi- 
tional energy costs, in considering open entry and competition in fares, 
are we not talking about a situation which is inviting chaos? 

Mr. Engman. i am not at all sure that would be the situation, Mr. 
Chairman. We do not really know what would happen, perhaps. 

I suggest part of the problem in the existing market is that some 
carriers — for example, Pan Am is not permitted to compete in some 
of the more lucrative routes. I was happy to see that the Department 
of Justice recently suggested to CAB that that might be one of the 
answers to Pan Am's problem. 

But as my earlier testimony suggested, the present system, which 
prohibits price competition, in fact encourages the type of situation 
to exist with overcapacity, and that leads to costs higher than they 
otherwise would be, and bad profit. 

Obviously there may be some differences, but even in the securities 
industry back a few years ago, we had a bear market, falling volume 
on the stock exchange, but there were really no disasters that came 
about as a result of the abolition of the fixed-rate fee system. It was 
done in a series of stages until finally the system was abolished alto- 
gether. It is not a pure analog}', but it seems to me a similar approach 
might be taken toward the airlines. 

I suggest a scheduled return to the free market over 2 years or 4 
years or whatever period Congress deems appropriate. This would 
put the fundamental arguments in support of regulation on trial. 
And it could be done in a manner that would allow the decision as to 
how far to go to be based on fact and proven results rather than on 
theory. 

My own guess is that we would make it all the way back to "regula- 
tion" by the free market and that we would be better off for it. 

Thank you very much, Mr. Chairman, I will be more than happy to 
attempt to respond to any questions that you might have. 

Senator Kennedy. Thank you very much. 

I value very highly your testimony and your comments. 

We in the Congress have been very impressed with the efforts that 
you have made in the Federal Trade Commission in attempting to 
bring about a variety of reforms. I think you are aware that a few 
years ago wo had some hearings on various procedures and practices 
within the Federal Trade Commission and made a number of recom- 
mendations. I must say that I have been enormously impressed with 
what has been achieved under your- leadership in the Commission. 

jNIr. Engman. Thank you. 

Senator Kennedy. I think that has been of great value to the 
American public. 

NEED FOR LEGISLATION 

I am wondering whether you think a number of these points that 
you have raised here can be done, a number of these reforms can be 
achieved without additional legislation. You have seen very sub- 
stantial reform within your own agencies without corresponding 
legislation, I believe, and I am just wondering whether you feel these 
other points that you have raised here this morning can" be done like- 
wise without legislation ? 



30 

Mr. Engman. It is a good point, Mr. Chairman. 

Let me say first of all that I think honesty would compel me to say 
that although a great deal of the impetus at the Federal Trade Com- 
mission could come from the Commission, I think a number of things 
we have been able to accomplish, in my view the past few years, have 
been the result of the cooperation and assistance of the Congress, not 
only in terms of holding hearings on certain questions, and particu- 
larly recently again in terms of assisting us with some kind of addi- 
tional legislative authority. But I do appreciate your remarks. 

I think, as Secretary Barnum indicated, there is quite a bit that 
could be done under the existing legislation. Certainly a different 
approach, a more liberalized approach could be taken by the Board 
with respect to limitations on entry. I certainly feel that under section 
1002 of their act they have the ability to not suspend proposed fare 
decreases by various airlines, and that would be a step in the right 
direction, they could encourage price competition, price quality 
option, and although I am not an aviation regulatory expect, I believe 
that thev could give serious consideration on their own to adopting 
the kind of proposal which Mr. Barnum outlined this morning with 
respect to establishing a zone of reasonableness Avith respect to pricing. 

I do suggest there are some inbred difficulties within any institution 
after a period of time, and because of the value of precedent and 
because the agency was initially established in effect to promote— and 
it still views as one of its functions— the airline industry in the Ignited 
States. 

With that kind of objective and that kind of of gloss written over 
their responsibilities, let me say, I am not optimistic that substantial 
changes will be made or sufficient changes will be made by the Board. 

APPOINTMENT OF CAB MEMBERS 

Senator Kennedy. Do you think some of the problem is the appoint- 
ment process ? We talked a little bit about that earlier. 

Mr. Engman. I heard the discussion on that. 

Senator Kennedy. How would you change that ? 

Mr. Engman. Let me first confess that my focus on it with respect 
to this system of regulation basically has been an institutional one and 
I have not given a great deal of thought to the earlier questions, and 1 
cannot really speak from firsthand knowledge as to Avhat that process 
has been with respect to that agency. 

I know as far as my own process went that the Commerce Committee 
I thought did a good, extensive, thorough job of analysing qualifica- 
tions in the examinations I have seen them undertake, and I think it is 
the responsibility of Congress to do that. Whether or not that has been 
done sufficiently with respect to some of the areas, I frankly do not 
know. But I think there is a role for improvement of the process. I 
happen to believe there is nothing we have around that is so sacred 
(hat we cannot improve it unless it is something like the first amend- 
ment. As a result of that, I think, there may be an admirable approach 
there. 

Senator Kennedy. Fine. Very helpful. We want to thank you very 
much for your presentation. 

Mr. Engman. Thank you very much, Mr. Chairman, for the oppor- 
tunity to be here. 



31 

Prepared Statement of Lewis A. Engman 

Last year when I was asked to present the Federal Trade Commission's views 
on governmental restraints in the marketplace, I expressed concern that, like so 
many voguish topics, it would be the subject of much discussion but little action. 
It is gratifying, therefore, to know that concern with this vital subject has con- 
tinued into the 94th Congress, and I commend this subcommittee for its role in 
continuing the inquiry. 

At a time when rising prices threaten the welfare of every American, it would 
be folly indeed if we were to fail to address this one area where such large 
efficiencies appear to be available to us without offsetting economic costs. 

I am, therefore, pleased to be here, Mr. Chairman, and to have this oppor- 
tunity to offer my views on Federal regulations affecting the airline industry. 

Lest someone else feel compelled to say it for me, I must state at the outset 
that I am no expert on the technical aspects of the airline industry. I suggest, 
however, that one need be no expert to perceive that something is amiss with the 
way the Government currently construes its responsibility toward the American 
consumer of air transportation. 

As spokesman for an agency broadly charged with ensuring that the consumer 
receives the best that the marketplace can provide for him, I find this situation 
disturbing. 

The Federal Trade Commission is committed to the principle that people are 
best served by the effective operation of a free and competitive open market. 

Today, those conditions are conspicuously absent in our airline industry. They 
are absent because, over 35 years ago, the Congress, after examining the needs 
of a then infant industry struggling to raise capital, decided that the public wel- 
fare demanded an exception to the principle of competition — demanded that the 
airline industry be given partial immunity from the antitrust laws and from the 
rigors of price competition. The arguments mustered in support of that decision 
were essentially two : that it was necessary to ensure the industry against "cut- 
throat" competition and that it was necessary to provide service to localities 
which would not otherwise receive it. 

I was not around at that time. I did not hear the arguments made for and 
against what was done. But whatever arguments were made at that time and 
whatever industry conditions they reflected should be of little consequence to us 
today. For the relevant question now is where has it all brought us? 

There can be little doubt that much of what was intended has been achieved. 
Whether it is because of, or in spite of, regulation, I do not know, but today we 
have beyond question the most comprehensive air transportation network in the 
world. Moreover, despite the current depleted condition of several of our major 
carriers, the industry over the years has been characterized by extraordinary 
stability. 

But these objectives have been achieved at a very high cost. Our system, which 
severely inhibits price competition and restricts entry, has led to a fare structure 
on many routes which economists agree is far higher than that which would 
prevail if the industry were characterized by price competition and free entry. 
Several conditions flow from this fact. 

The absence of any real price competition coupled with higher than competitive 
rates leads to large amounts of nonprice competition. One important type of 
nonprice competition is in terms of frequency of flights. This in turn leads to 
large amounts of excess capacity. It is UQt unusual today for several planes to fly 
almost identical schedules each with a small fraction of its seats filled on some 
flights. In short, there is economic waste — the classic cost-plus syndrome. The 
air passenger who finds himself next to an empty seat may be pleased with 
this state of affairs. He is able to spread out a little. But I wonder how pleased 
he would be if he were f^ware that he had paid not only for the seat he was 
sitting in, but for the seat his briefcase was sitting in, too. 

In addition, fixed rates have created a sort of phony war, a war in which 
airlines compete for business, not on the basis of price, but on the basis of 
scheduling and comfort. All of us today have standing invitations to fly Cheryl 
or Karen or Trixie or even Bruce. Those invitations are no more or less than con- 
fessions on the part of the airlines that our decision as to which to fly pretty 
much boils down to whether Cheryl is more attractive than Bruce. 

This bogus competition along with creature comforts and the pressure to up 
the number of flights can be explained by the simply economics of the airline 
industry. We start with an increase in fares. In the absence of price competition 
each airline tends to compete away the "profits" from the fare increase by 
engaging in various forms of increased nonprice competition. 



32 

More frills are added. Witness the great free drink battles of recent times 
or the lounge wars of some time back. Often flight frequencies are also in- 
creased. Unfortunately, this tends to reduce overall load factors on all the 
planes. Rates of return go down, and soon a new fare increase is "required" to 
maintain the existing rates of return. The whole non-productive cycle starts 
all over again. 

The situation is analogous to that which existed in the securities industry 
a few years ago when it was operating on fixed rates across the board. Since 
brokerage houses could not offer the customer lower rates, they offered frills, 
counseling services and the like. The brokerage houses argued that these frills 
were worth the extra money, but the institutional investors knew better and 
they made the brokers give them the equivalent of rebates under the table. The 
American consumer of air transportation doesn't have that power. I wonder how 
he would act if he did. 

Comfort and scheduling are undoubtedly worth something to consumers. But 
are they worth the price he must pay for them? Obviously, they are worth 
nothing to those who cannot afford to fly because of the high prices. There is 
evidence which suggests also that they are not worth it even to those who can 
and do fly. If, given the choice, some people would choose to pay the higher rates 
for deluxe or frequent service, why does the industry and the Government shy 
away from giving them that choice? For surely that has been the pattern in 
recent years. 

Our current system of regulation has prevented the entry of new carriers 
willing to fly for less. And it has frustrated operations willing to lay on "bare- 
bones" service at a fraction of the going rates. 

It is argued that these limitations are necessary to prevent "undue diversion" 
from the scheduled carriers. We can recognize that argument for what it is. 
"Diversion" would not occur if people thought frequent flights and frills were 
worth the price. 

Do not misunderstand me. I have nothing against Cadillacs. But I question the 
equity of a system that forbids the sale of Pintos. And I wonder about a system 
which permits producers of a "big ticket" item like air transportation to avoid 
the issue of price except when it is to tell consumer that a si>ecial rate awaits 
him if he is leaving on Wednesday morning, plans to remain at his destination 
for precisely 53 days, is carrying no luggage and is a charter member of the Flat 
Earth Society. 

It may be impossible to get a precise measure of how much our system of 
regulation actually costs the airline customer and the American public. But we 
get a rough idea examining prices in those few markets where regulated carriers 
face competition from intrastate carrers not subject to Federal regulation. Two 
such markets currently exist in California and Texas, and you have doubtless 
already heard and read much about them. SuflBce it to say that the unregulated 
intrastate carrier entered the market with substantially lower fares in each 
instance. In the ca.se of Texas, the price differential remains today with the result 
that consumers are offered a lower cost alternative — offered it, I might add, by a 
financially successful airline, Southwest Airlines. In the case of California, the 
low cost competition offered by Pacific Southwest Airlines forced the interstate 
carriers to appeal for and to get from the government permission to lower their 
rates to the level of the competition. But you need only step across the state line 
to appreciate the local character of this consumer benefit. It still costs much 
more to fly the 226 miles from Los Angeles to Las Vegas than it does to fly the 
347 miles from Los Angeles to San Francisco. 

The cost of the consumer of continued regulation is suggested also by a 1972 
economic study in which the costs of airline operations were compared with 
fares for flights between 30 different pairs of cities. These comparisons showed 
that, in markets where there was no competition from an unregulated carrier, 
fares exceeded costs, including a 7% percent return on investment, by from 47 
percent to 84 percent. Since, with competition, fares could be expected roughly to 
parallel costs, this wide variation would seem to suggest that the experiences in 
Texas and California do not reflect unique circumstances. 

These then are at least some of the costs that have been imposed on the public 
in stressing stability and comprehensive service. Whether one has been worth 
the other is a policy question which Congress should consider. 

But any weighing of costs and benefits surely should be preceded by a close 
examination of their relationship. For it can be arsrued that many of the costs 
incurred were not necessary to the attainment of the benefits intended. 



Consider first the benefit of comprehensive service, that is, service to parts 
of the country where traffic is too light to support a scheduled airline. It is often 
argued that high fares on heavily travelled routes are needed to subsidize losses 
on sparser runs which the regulated carriers are required to fly. I do not know 
how much of this "cross-subsidization" actually occurs, but assuming that there is 
some, it has the effect of putting the entire industry on a de facto cost-plus system 
of return, a system which experience has indicated is a very poor check on 
inefficiency. Also, requiring one air passenger to subsidize the flight of another 
raises a serious question of equity. If it is a desirable thing to have air service 
between two small towns, why should only one class of citizens be asked to bear 
the cost of it? 

Finally, the system raises the question of resource allocation, for there can 
be no question that a subsidy paid from high fares on heavily travelled routes 
causes misallocation of resources. 

Higher fares on denser routes inhibit travel on those routes. The "right" amount 
of air travel on these routes would be the amount which i>eople would buy at a 
price which just covered all costs of providing the service. Higher prices will 
cause them to buy less than that amount. And the resulting loss to society is the 
same as it would be had the higher price been the result of private price fixing or 
monopoly. 

I express no view on the question of whether some flights should be directly 
subsidized. I .suggest simply that if we are to have a system under which some 
people subsidize service to others, we should, at the very least, be able to identify 
its costs so that we can intelligently examine alternate forms of subsidy and so 
that we can periodically reassure ourselves that the benefits are worth the costs. 
The otlier pillar — in addition to comprehensive service — on which our current 
regulatory system stands is the need to prevent "cutthroat" competition which 
could threaten the industry's stability and perhaps result in a single-firm 
monopoly. 

This has not happened in California, and I see no reason to expect that it w^ould 
be a general problem. 

The number of firms present in any industry depends largely on whether there 
are large economies of scale relative to market demand. If there are, there will be 
only a few firms in the industry. In the most extreme cases, there may be only one. 
But the airline industry does not have large economies of scale. The basic 
unit of production is the airplane itself. Economic studies indicate that an efficient 
airline can be run with only a few of them. They can be — and are — easily 
shifted from one route or carrier to another. 

Single firm service may emerge on some lightly travelled routes because of 
the small size of the market. But it is doubtful that such firms could charge 
monopoly prices because of the constant threat of entry by other firms. The ability 
to shift planes easily from one market to another makes the threat of entry quite 
credible in this industry. Much of what I have said you have doubtless heard from 
others. The question is "what do we do about it?" This is obviously a complex 
area, and the precise answer to that question is not clear. However, two points 
are quite clear to me. 

First, I believe that no one is going to be able to provide a complete answer 
until we have a better accounting of the costs and benefits of the current system. 
At present, neither the Federal Trade Commission, nor the Congress nor the 
American public has any idea of what the current system of regulation costs or 
what it produces. My interest in this question as a Federal official is not as im- 
portant as my interest as an air traveller and a taxpayer since I, along with 
millions and millions of other Americans, am paying the bills. Congress' need to 
know is greatest of all. For without the facts on the table, you will have no 
frame of reference against which to compare alternate approaches. 

Second, my experience has led me to conclude that the free enterprise system 
is the best regulator of all. I can see nothing about the airline industry which 
would suggest to me that in 1975, Government regulation of the airline industry 
is providing the consumer with more for his money than the free market would 
provide. Therefore, I suggest you listen to proponents of regulation with an open 
mind, as I have done. But I submit, given the conditions that exist today in the 
industry and in regulated industries in general, that the competitive market 
should be made the point of departure for the debate and that the burden of 
proof should rest with those who argue against competition rather than with 
those who would return to it. The burden should also be on those who, in the 
name of reform, stop short of this goal. 



51-14G O - 76 - pt. : 



34 

There will be doomsayers who will forecast the direct consequences of de- 
regulating rates and entry. Typically they will be based on the reductio ad 
absurdum case in which at 12 :47 on a Wednesday afternoon we shift from total 
regulation to open competition. It needn't occur that way. If the Congress were 
to determine that a move in the direction of the free market were warranted, 
it could easily enough be accomplished in stages. There is ample precedent. 
Several years ago the SEC was looking at an analogous situation in the securi- 
ties industry. Brokers then operating on a fixed rate basis argued bitterly that 
negotiated rates would be a disaster. The SEC rejected that argument and de- 
cided to move ahead, not all at once, but on a staged basis. Beginning with pur- 
chases of over $500,000, rates were left to the forces of the market. Though this 
occurred against the background of a bear market and falling volume, there were 
no disasters. So the cutoff level for negotiated rates was lowered, not just once 
but again and again at i>eriodic intervals until the fixed rate system was abolished 
altogether. 

It may not be a perfect analogy, but it seems to me that a similar approach 
could be taken toward the airlines. I suggest a scheduled return to the free 
market over 2 years or 4 years or whatever period Congress deems appropriate. 
This would put the fundamental arguments in support of regulation on trial. 
And it could be done in a manner that would allow the decision as to how far to 
go to be based on fact and proven results rather than on theory. 

My own guess is that we would make it all the way back to "regulation" by 
the free market and that we would all be better off for it. 

Senator Kennedy. Our next witness is the Assistant Attorney Gen- 
eral for the Antitrust Division, the Department of Justice, Mr. Kauper. 
He formerly served in the Office of Legal Counsel. He was a law pro- 
fessor at the University of Michigan. We welcome him here this 
morning. 

A great deal of attention has been f ocussed on the Antitrust Division. 
I am sure you know how important your own work is. I want you to 
know that we in the Congress think so, too. 

You have very extensive testimony here. I am just wondering how 
you want to proceed. I want to give you a fair chance to present it. 

STATEMENT OF THOMAS E. KAUPER, ASSISTANT ATTORNEY 
GENERAL, ANTITRUST DIVISION, DEPARTMENT OF JUSTICE, AC- 
COMPANIED BY DONALD BAKER AND KEITH CLEARWATERS, 
DEPUTY ASSISTANT ATTORNEYS GENERAL 

Mr. Kauper. Mr. Chairman, at your staff's request I have been 
sitting out there marking out portions of it. 

So, I think, what I will try to do is to go through it, but omitting 
very substantial parts. 

Senator Kennedy. We will obviously include it in the record. 

Mr. Kauper. I am accompanied by Deputy Assistant Attorney Gen- 
eral Donald Baker on my right, and on my left Deputy Assistant Attor- 
ney General Keith Clear waters, wlio will be taking part in these 
hearings. 

Mr. Chairman, I am happy to be here today to present the views of 
the Department of Justice and to report on the work that the adminis- 
tration is doing on economic regulation of domestic air transportation. 

Airline costs affect us all as citizens, taxpayers, and consumers. They 
affect us when we buy products, when we carry out our jobs, and when 
we travel for pleasure. Airline costs are in turn directly affected by 
airline regulation — for it is regulation which tells carriers on which 
routes they can compete and what means of competition they can use. 
Basically," it keeps entry tight, while allowing carriers to compete in 
terms of service but not price. The result is, as you would expect, a sys- 



36 

Icm which sets both price and service at levels above what they would 
be in a competitive market — in other Avords, there are more planes, with 
more empty seats, and the customer pays more tlian he would under a 
regime oi open competition. 

For years nobody much worried about CAB price and enti-y policies, 
because we were in a continuing trend of improving equipment, de- 
clining cost, declining prices, and rapidly growing traffic. The airline 
traveler's Avorld was getting better, even tliough CAB rate and entry 
regulation was probably slowing down at least the rate at which fares 
declined, and encouraging excess capacity. 

Now, ho\\'ever, the situation has changed. Due to sharply higher fuel 
and labor costs, airlines have been requesting, and the Board has ap- 
proved, a A\hole sei-ies of fare increases, which have come at a time 
when the public at large was, if anything, less able to pay these fai^es. 
At the same time, the Board has actively sought to cut back on low- 
price air travel, through limitations on promotional fares and restric- 
tions on charter activity. The result of all this has been to raise fares 
considerably for everyone and to raise them enormously for certain 
classes of users. The overall effect has been to produce an almost un- 
precedented substantial reduction in air travel — more empty seats on 
scheduled flights and fewer charter flights. The i-eduction in demand 
has tended to push up the airlines' miit costs, since they have had to 
spread out their fixed costs over fewer passengers. This in turn hag 
provided the impetus for renewed fare increases, a situation likely 
to further reduce air travel and hence again increase unit costs. The 
resulting spiral of increasing fares and costs means that the smaller 
proportion of the public which can afford to fly gets reduced service 
at increased prices. 

REGULATION OF FARES AND ROUTE ENTRY 

We in the administration have been studying for some time how to 
break out of this upward spiral of prices and costs. We have concluded 
that the most hopeful avenue is a substantial relaxation of existing 
price and entry regulation, which forces cairiers to offer excessive 
amounts of unused seats at excessively high fares. That system of 
regulation has in addition prevented innovative newcomers from 
coming into the business of interstate air transportation, in the interest 
of protecting the established carriers against new competition. We be- 
lieve that more open competitive pricing, if given a chance, would 
broaden the carriers' entrepreneurial opportunities by giving them a 
chance to compete with lower fare? as well as Avith extra seats. We be- 
lieve that it would tend to bring interstate air transportation more into 
line with what we saw in California and Texas. An environment of 
lower fares and fuller planes. If this occurs— and both actual experi- 
ence and economic theory suggest that it Avill — we have found a basis 
for breaking the cycle of rising costs and declining service. Lower 
prices are likely to come quite quickly and lower prices are likely to 
encourage new traffic quite quickly. By the same token, liberalized 
entry rules^an environment with less emphasis on route protection — 
are likely to get onto the routes those carriers who are most efficient at 
serving them. In a competitive environment, such efficiencies can in 
turn be passed on to the traveler in the form of lower fares. 



36 

The Department's perspective on airline regulatory problems is 
based of course on our experience in enforcing the antitrust laws in a 
great variety of industries having a diversity of cost and capital char- 
acteristics, it is based on our extensive participation before the CAB 
in a variety of proceedings. And it is based on our experience in anti- 
trust enforcement in other regulated industries, some of which have 
economic characteristics similar to those of air transportation. Our 
experience tells us that regulated firms rarely welcome freer entry rules 
and more flexible pricing. They generally want to be protected from 
outsiders and protected from each other by a benevolent regulator. In 
the airline field, regulated firms generally have opposed pricing flexi- 
bility and offered capacity cartel agreements instead. Yet our experi- 
ence also tells us that in fact competition works in regulated environ- 
ments much more efficiently than the regulated firms generally be- 
lieve; and we find increasing use of competition in place of direct 
regulation as a tool to promote efficiency in a number of regulated en- 
vironments—ranging from wholesale electric power to securities 
markets. 

The Department is currently Avorking with the Department of 
Transportation, the Council of Economic Advisers, the Council on 
Wage and Price Stability and the Office of ^lanagement and Budget to 
develop detailed administration proposals which respond to this reality 
in the transportation sector. We hope to have detailed proposals for 
air transport regulation reform for presentation to the Congress in 
the near future. At this point, these agencies have arrived at a broad 
consensus in principle, which we will discuss today. 

We all agree that regulation of rates and routes has been excessive 
and has inflated present cost and fare levels. 

We believe the Government should regulate the airlines where neces- 
sary to insure the safety and reliability of air transportation — but this 
clearly does not require direct Government regulation of airline pricing 
and entry to the current extent. We believe the focus of Government 
regulation of the airlines should be on these essentially noneconomic 
goals, with clear standards and ]5rocedures which insure that regula- 
tory powers are not used to unnecessarily limit competition. Even if 
full rate regulation is deemed necessary to deal with certain problems — 
for instance, the prevention of monopoly pricing in certain rnarkets — 
such regulation should be carefully crafted to limit and clarify goals, 
standards and procedures. 

Eeform only of procedural — rather than substantive — provisions of 
the act cannot correct the fundamental problem of its ambiguous and 
sometimes conflicting stated objectives. Procedural reform of the act 
might well be desirable, but it is not likely to be successful without 
a narrowing and clarification of the standards the Board may apply 
in making economic decisions, and of the scope of airline activities 
subject to those decisions. Such a redefinition of the act's economic 
goals and standards would be a substantial improvement. And in our 
view, such a redefinition Avould call into question the continued useful- 
ness of much of present economic regulation. 

CAB AUTHORITY TO GRANT ANTITRUST IMMUNITY 

The administration group also agrees that the CAB should not be 
given broad authority to immunize from the antitrust laws all the 



37 

private ao:reements and mergers it approves. Accordingly, our pro- 
posals will provide for a much narrower area of antitrust exemption, 
and for a merger approval approach generally modeled on the Bank 
Merger Act of 1966. 

To explain the basis for these rather broad conclusions, I will sketch 
briefly the circumstances which led to the imposition of Federal eco- 
nomic regulation of the airlines, describe what I believe to be the 
lessons of major CAB economic regulatory proceedings, and attempt 
to outline some preliminary conclusions. 

HISTORY or CAB REGULATIOX 

Federal regulation of air transportation has developed primarily 
along two paths : one set of statutes which regulate safety, airport and 
airway affairs, and another specifically directed toward the regulation 
of the economics of air transportation. The first category of statutes 
has been the responsibility of the Department of Transportation and 
the National Transporation Safety Board for several years. The eco- 
nomic regulatory system which the Civil Aeronautics Board adminis- 
ters is now embodied by the Federal Aviation Act of 1958, as amended. 

The origins of airline economic regulation are usually traced to the 
Civil Aeronautics Act of 1938, which generally followed the outline 
of the Interstate Commerce Act in setting up most of the major regula- 
tory features of today's Federal Aviation Act. Tliere had been partial 
economic regulation of air carriers prior to 1938, however. After 
experimenting with several different means of administering a system 
of subsidized air transport of mail, the Congress determined in 1930 
to grant the Postmaster General broad powers over the routes, rates, 
and practices of carriers carrying airmail under contract with the 
Government. In 1935, the Congress broadened this regulation to. pro- 
hibit carriers with airmail contracts from engaging in any service on 
routes other than their airmail routes if such service would compete 
with another carrier having an airmail contract on that route. The 
predominance of mail over passenger service was rapidly diminishing 
throughout this period, however, and by 1937 air carrier income from 
passenger service was twice as great as mail income. Unregulated car- 
riers without airmail contracts began to compete with airmail carriers, 
who naturally complained about their unregulated competitors' greater 
economic freedom. The Interstate Commerce Commission, which ob- 
tained economic regulatory powers over motor carriers in 1935, pressed 
for the extension of economic regulation over all air carriers, under the 
general theory that it is unfair and "chaotic" foi' unregulated firms to 
be allowed to compete with regulated firms. 

The protection of a subsidized airmail system was a vital objective 
of the drafters of the 1938 act. Even today, a very high percentage 
of the provisions of that act, as amended, still are concerned with the 
carriage of mail. Today, although the mail system is of crucial im- 
portance, it is a small percentage of the air transportation business. 
There certainly would be no logical basis today for designing the entire 
air transportation system around the mail system, because the needs 
of the Postal Service can be met with relatively small and specific 
modifications to the larger air system. 

Just as the "chaotic" conditions generated by the efforts to develop 
an airmail system have disappeared today, we no longer experience 



38 

two other very important factors which led to the creation of airline 
economic regulation in 1938. The Great Depression had shaken our 
society's confidence in the free market system, and led to a number 
of laws which substituted direct Government economic regulation of 
business organizations for the maintenance of free competition. Also, 
air transportation in the 1930's was thought to suffer from undue 
division of governmental regulatory authority among the Commerce 
Department, the Post Office Department, and the Interstate Commerce 
Commission, and it was considered a very important function of the 
1938 act to combine and coordinate all of these functions within one 
agency. 

The drafters of the act, however, vehemently denied any intention 
to allow the Board to restrain competition or create monopolies. The 
act itself directed the Board to maintain "competition to the extent 
necessary" to pursue other rather inclusive goals, and explicitly 
directed the Board to observe conventional antitrust principles in 
deciding merger and interlocking control cases. 

The act's reliance upon competition among air carriers shows that 
the Congress clearly did not regard air transportation operations as 
having "natural monopoly" characteristics which required Govern- 
ment control in the place of the discipline of competition. Instead 
of detailed control of the rate base, regulation was extended to fares, 
entry and exit from specific routes, and agreements and mergers. 

MERGERS REASONS FOR 

The first category of major CAB economic cases are those in which 
the basic structure of the airline industry itself was at issue. In the 
last 15 years, the Department of Justice has opposed three major 
trunk air carrier merger proposals, which had they been approved, 
would have substantially redrawn the route map of the U.S. domestic 
system, and considerably increased the already very great concen- 
tration of the airline industi^ in the hands of a very few large trunk 
air carriers. 

Since 1962, we have opposed before the Board the proposed mergers 
of American with Eastern, Western with American, and National 
with Northwest. 

In the last few years, the Department also has studied several other 
major airline merger proposals which were never filed and litigated 
at the CAB. . . 

As a result of studying, testing, and arguing the evidence m these 
cases, we have come to the conclusion that in the absence of economic 
regulation, the air transportation industry probably would have a 
reasonably flexible, competitive structure which would serve the 
public better than the present Government-controlled structure. Ex- 
perience under economic regulation, and in unregulated air trans- 
portation where available, indicates that the industry tends to have 
a "competitive" structure, rather than being a "natural monopoly" 
which must be regulated in the interests of the public. 

Evidence is quite abundant that there are no important economies 
of scale in air transportation ; that is, larger firms are not more efficient 
or less costly simply because of their size. In fact, other things being 
equal, the largest air carriers tend to have a higher level of unit costs, 



39 

and there are some indications that these increased costs are caused 
by the difficulties of managing an airline of very large size. 

The airlines' "right-of-way'' is the air itself /and their "tracks," if 
any, are the air traffic control guideways maintained by the Federal 
Government. Well over 80 percent of the airlines' investment is in 
flight equipment, which is among the most mobile of assets, rather 
than in fixed assets, as is the case in the classical "natural monopoly." 
Not only does this make competitive service economically feasible, but 
it makes duplication of routes far less risky, because competitors can 
more easily adjust their operations by rescheduling an aircraft from 
one city-pair to another — assuming that the Government does not 
prevent them from doing so. 

In view of this conclusion, why have so many mergers been pro- 
posed? Perhaps the most important reasons for mergers among the 
regulated air carriers have been the effects of regulation itself. Air 
carriers know that when they hold a certificate, it is the nature of 
economic regulation that the Board will to a greater or lesser degree 
protect them from entry by new competitors on that route. Similarly, 
the air carriers know that they cannot expand onto a new route with- 
out obtaining a certificate. Consequently, any certificated air carrier, 
no matter how poorly run and how debilitated financially and opera- 
tionally, has one very valuable asset — its route certificate. This asset 
typically has been sold by merger of weak carriers into stronger 
carriers. As a result, no large federally certificated air carrier has gone 
out of business other than through merger with another federally 
certificated air carrier. Because the Board has allowed virtually no 
new firms to join the ranks of the certificated air carriers, there has 
been a steady diminution in the number of air carriers with certificates 
from the Federal Government. 

It has been observed that during the period when California intra- 
state airlines were essentially free from economic regulation, many 
firms entered and left the market, but none of them left tlie market 
through merger One very careful economic study of this phenomenon, 
and the contrast between unregulated California airlines and the i-egu- 
lated interstate airlines m^akes a convincing and apparently unrebutted 
case that in the absence of economic regulation there probably would 
have been many more competing airlines in the United States than the 
CAB has allowed to exist. 

As long as new certificates are not freely given, one would expect 
that there would be some transfer of certificates as carriers seek to 
reorganize their route authorities. However, sale or trade of certificate 
authority has been fairly rare, althouirh not unprecedented, because 
until lately the Civil Aeronautics Board did not encourage such 
"trafficking in certificates." Eecently, the Board's willingness to con- 
sider transfer of certificate authority has led to a number of "route 
swap"' proposals. Generally speaking, route transfers — including the 
reciprocal route transfers currently called route exchanges — are merely 
partial mergers. Consequently, as with mergere, there would be far 
fewer route transfers, if any, in the absence of entry restrictions. 

Other asserted reasons to renulate entry and exit from air trans- 
])ortation markets are that without such reqfulation, there ^^'ou^d be 
"destructive," or predatory conduct by airline firms, and "chaotic" 
conditions Avould constitut^^ a sei-ious public detriment. Let us examine 
these fears in turn. 



40 

UNFAIR COMPETITIOX 

In order for predatory conduct to pay off. it is necessary for a firm 
to go through two processes : First, it inust drive competitors from the 
market by using predatory practices, such as below-cost price cuts. 
This kind of conduct is costly to the would-be predator. Second, the 
predator must recoup those costs by using the resulting freedom from 
competition to behave like a monopolist. This second step will not be 
possible if the firms which were driven out can reenter the market 
quickly and easily. As I have explained, entrv into air transportation 
markets generall}^ would not be difficult to accomplish quickly if there 
were no Government restriction. Accordingly, the economists who have 
Avritten on this matter have concluded that the prospects for profitable 
predatory conduct are poor in this industry. Given these economic 
facts, Government regulation of entry actually can cause the predator^' 
conduct it is supposed to prevent. A Goveniment pi'ohibition on entry 
can be the most effective insurance possible for a predator w^hicli is 
trying to recoup the costs of predatory conduct. 

SERVICE COMPETITION 

Of course, if predatory conduct should take place in the airline in- 
dustry, it is subject to the antitrust laws just as it is in another in- 
dustry, if it is not somehow immunized by Government action. In 
terms of pricing policy, the key point here is that the economic 
characteristics of the airline industry are such that even when the 
Government eliminates price competition, carriers still have the in- 
centive to compete, and will compete any way they can, if only through 
"frills'' which are loss important to passengers than price. Once a flight 
is scheduled, the cost of carrying additional passengers in the airplane 
is very low compared to the cost of flying the airplane in the first 
place. Thus, the marginal passenger on a flight is very profitable — 
any competitive initiative which diverts passengers onto an airline's 
flight may pay off richly. 

In scheduled service, it appears that next to price, the variable most 
important to the passenger on a scheduled airline flight is the ability 
to find a seat on a flight at or near his preferred departure time. Conse- 
quently, when the price is fixed, competitive rivalry is diverted into 
capacity competition — competing carriers offer large numbers of 
flights in an attempt to cover as many preferred departure times and 
attract as many customers as possible. The evidence in the recent 
capacity reduction agreements case is quite convincing that, even under 
the present system of uniform fares, carriers do not have the incen- 
tive to offer ruinous amounts of capacity simply because of this 
phenomenon. But it is clear that fare regulation has caused the airlines 
to offer the consumer large numbers of flights and empty seats instead 
of cheaper transportation. Stated another way, they have tended to 
"compete away" the "monopoly profits" generated by excessively high 
regulated fares. 

EVALUATION OF THE DOMESTIC PASSENGER FARE INVESTIGATION 

Allowing price competition by the airlines would give them an in- 
centive to offer consumers a choice as to the combination of fare and 



41 

load factor they want, and all the evidence is that the result would be 
that lower fares would be available to the users of scheduled interstate 
flio:hts. The experience of the intrastate carriers in California and 
Texas confirms this. Of cour.se, higher load factors also would be in- 
volved — but all this tells us is that the public would rather pay con- 
siderably less for travel, even at the price of being somewhat less 
certain of getting on their first choice of flight. Accordingly, we were 
disappointed when the Board rejected the arguments of the Depart- 
ments of Transportation and Justice in favor of allowing air carrier^ 
to price freely within a "zone of reasonableness" instead of requiring 
a rigid adherence to one identical fare for all carriers offering servi 'p. 
in a particular market. 

We were gratified that the Board decided in Phase 6 of the Domestic 
Passenger Fare Investigation to base its fare decisions upon load factor 
and seating configuration standards which excluded from the rate base 
any service amenity not included in the Board's standards for such 
service. Under the iPhase 6 policy, the fare is based on the amount of 
capacity associated with a standard load factor, in a standard aircraft 
configuration set by the Board, rather than the actual load factor and 
configuration of a particular carrier or the industry. We believe this 
approach can allow carriers greater freedom to experiment with 
different levels of capacity and types of service without being deprived 
of the motive to keep their services as economical as possible. In Phase 
6 and the related coach lounge proceeding, we argued that the Board 
violated the spirit of its Phase 6 policy by attempting to punish a 
carrier offering a different type of service by requiring that carrier to 
charge a different fare, rather than simply requiring that carrier to 
charge a fare based upon the more economical aircraft configuration 
which the Board adopted as its standard. This was the first proceeding 
in recent years in which we carried our disagreement with the Board 
to the court of appeals, and this ma.^ter is now pending rehearing en 
banc on the Board's motion after a decision favorable to our position. 

We also have pending in the court of appeals a review of the Boards' 
decision to extend rate regulation to the charter field for the first time, 
despite numerous arguments in opposition. 

The Board generally has applied a specific "rule of reason" standard 
when it decides whether or not to approve an agreement which restrains 
conipetition. That is, if an agreement would have substantial anticom- 
petitive effects under established antitrust principles, it will not be 
approved unless approval is the only way to meet a serious transporta- 
tion need or secure important public benefits. Until very recently, the 
Department of Justice has not participated in very many proceedings 
concerning air carrier conduct subject to regulation by the Civil Aero- 
nautics Board. In recent years, we have opposed capacity restraint 
agreements which have been in effect in several markets on the basis 
of various purported justifications. The capacity agreement question, 
too, is pending in the court of appeals. 

CAB POWER TO GRANT ANTITRUST IMMUNITY 

Let me if I might go into detail briefly on the issue of antitrust 
immunity, which is one of the questions that will be rising later here. 

Under the present aviation act, the Board has power to approve or 
disapprove mergers (section 408), control relationships (section 409), 



42 

and agreements among air carriers (section 412). Section 414 of the 
Federal Aviation Act provides that the antitrust laws shall not apply 
to persons affected by CAB orders issued under these three sections of 
the act, to the extent "necessary to enable such person to do anything 
authorized, approved, or required by such order." (40 U.S.C. 1384.) 
The public interest would be better served if each of the thr-ee types of 
transactions as to which the Board can confer immunity were evaluated 
under the standards of the antitrust laws, rather than the general 
"public interest" rubric of an administrative agency. 

It would be desirable to remove the antitrust immunity provisions of 
section 414 even if these three types of transactions remain subject to 
administrative review. This would insure that the administrative 
agency would not follow a less procompetitive standard than that of 
the antitrust laws ; the safest way to do this is to eliminate any infer- 
ence that the Board's approval brings immunity from an antitrust 
lawsuit. 

The existence of the section 414 immunity provision creates the 
possibility of a lowering of competitive standards not only in the reg- 
ulated air transportation industry, but also in industries not regulated 
by the CAB. In a recent decision, the Supreme Court held that a 
private antitrust action against Hughes Tool Co., a person engaged in 
aeronautics, was barred by the Board's approval of and continuing 
jurisdiction over the control relationship which was the basis of the 
antitrust complaint. The antitrust complaint had centered upon the 
approved transactions' competitive effects in the commercial aircraft 
manufacturing industry, not in the air transportation industry which 
is regulated by the Board. 

If any special characteristics of air transportation require departure 
from the undiluted application of the antitrust laws, such departure 
should be effected by a procedure similar to that of the Bank Merger 
Act of 1966. Under that statute a specialized regulatory agency first 
passes upon whether a merger would violate the antitrust laws, and 
whether it should nevertheless be allowed liecause of specific over- 
riding public benefits which could not be obtained by any other means. 
The transaction is then subject to de novo review by the United States 
in a district court. 

Let me if I might now, Mr. Chairman, just very briefly address 
several conclusions. 

There are a variety of problems that we have addressed in the state- 
ment. The Department of Justice and other litigants sometimes can 
help maintain a degree of reliance on competition, but under no cir- 
cumstances do we believe such liticration brines optimum results. Par- 
ties seeking to influence the Civil Aeronautics Board toward more 
competitive policies are hampered by the vagueness and inclusiveness 
of the statutory standards among which the Board may choose to 
justify its decisions, and are hampered by judicial restraint in review- 
ing crucial aspects of agencv decisionmnkin.o-. This is exacerbated bv 
the very serious costs and delays of litigating economic issues, both 
before the Board and in the courts. 

These problems will be dealt with in greater detail in later sessions 
of these hearings. It will suffice to say now that we do not believe the 
serious problems of air transport economic regulation will be satis- 
factorily corrected by litisation under present statutory standards, 
although such litigation can help somewhat. 



43 

Neither do we believe that the optimum answer lies in the reform of 
procedures under which air carrier economic regulation is carried out. 
Unnecessary regulation is still expensive, even if carried out under 
clear standards and optimum procedures. It would be possible to have 
a much narrower statute seeking specific goals with definite safeguards 
for competition and economic efficiency. In air transportation, the 
fundamental goal would be the provision of efficient air transportation 
to the public by qualified common carriers using safe planes and 
qualified crews. A tightly drawn statute would prevent the Board from 
limiting competition unless is made findings on the record that com- 
petition would compromise safety or reliability of service. Even under 
such a statute, the problem of preventing regulation from pursuing 
other, anticompetitive goals might prove difficult. 

Specifically, we believe that new legislation should move toward the 
following goals. First, entry and exit restrictions should be greatly 
liberalized. Second, rate flexibility should be introduced through a 
phased process, perhaps initially using a zone of reasonableness. Eegu- 
latory intrusion with regard to rates within that zone would not be 
permitted. Finally, existing antitrust immunity should be removed, 
along the lines suggested earlier in this statement. 

There is a broad consensus that reform must proceed along all three 
of these fronts. The administration has thus concluded that it would 
be appropriate to move toward much more reliance upon competition 
in the air transportation industry, and much less reliance upon Gov- 
ernment economic regulation. We expect to present specific legislative 
proposals within a short time to the Congress, and specifically to this 
committee. 

Thank you, Mr. Chairman. 

Senator Kennedy. Thank you very much. We will include all of 
your statement in the record. 

Senator Kennedy. Do I understand your position correctly that you 
would eliminate all antitrust exemptions? 

Mr. Kauper. Well, I think there are several parts of that which are 
still under some review as to precisely how it should be done. Our 
thinking at the moment is that there may be some forms of agree- 
ments where a procedure not unlike the Bank INferger Act. pursuant 
to which the matter is passed upon by the administrative agency, but 
then subject to challenire by us in the U.S. district court, may be the 
best way of identifying those particular agreements where there 
seems to some peculiar transportaion need, where perhaps under con- 
ventional antitrust analysis, there might otherwise be a problem. 

I think it is true that a number of kinds of agreements which we, the 
administration, feel should be accepted, probably in and of them- 
selves do not violate the antitrust laws in any event. 

However. I think one does have to keep in mind that among other 
things we are a litigious country, and it may be in a few cases the pro- 
tection provided by that sort of immunity is desirable for that reason. 
We are working those detailed provisions out. They will be part of the 
proposals coming before you. 

Senator Kexnf.dy. Proposals made by whom ? 

Mr. Kauper. By the administration, as part of the whole series of 
administration proposals dealing with deregulation in this area. 
Senator Kennedy, When are we going to have those ? 



44 

Mr. Kaiter. I think the specific timeframe is about 6 weeks; at 
lea^t I think that is about the frame we are working on now. 

Senator Kennedy. And you will spell out. then, as I understand it, 
the legislation to carry this forward ? 

Mr. Kaiper. Yes. it is our expectation, Mr. Chairman, those will be 
in the form of legislative proposals. 

Senator Kexxedt. Are you satisfied with the opportunity for the 
antitrust division to participate in the regulatory agencies" decision- 
making? 

Mr. Kauper. Well, I think we have been able to participate in the 
sense of being a formal party. That is, when there is a particular 
proceeding, our views are submitted. We have, as I think you know, 
Mr. Chairman, put a good deal of time and effort and resources into 
exactly that sort of thing. So that I do not think — let me put it this 
way — I do not think the agency is suffering from any want of knowl- 
edge of our views. In fact, they probably have them more than they 
would care for them. 

Senator Kennedy. I suppose the real question is the power to have 
an impact on the decision. 

Mr. Ivauper. Well, I think that is a somewhat different question. 
Obviously in a variety of these areas, once the agency has arrived at 
its decision, the ballgame is in large part over from our point of view. 
That is, at that point, it has become a question of antitrust immunity. 
There are some instances in which we may be able to proceed into the 
appellate courts. That is still a matter of doing it by way of review of 
the agency decision, with all the appropriate weight an appellate 
court gives to an agency determination. 

So I think the suggestion is that we follow a procedure that would 
contemplate that we ourselves would have an independent ability to 
go to court. I think that is what is necessary. There is implict in that, 
in terms of our powers, that they are not adequate at the present time. 

Senator Kennedy. Are you going to recommend that Congress give 
you more power in this? 

Mr. Kauper. Yes, I think that would be one result of the proposal. 

Senator Kennedy. Can you give us a little bit better idea how the 
consumers- interests will be served with this opportunity that you 
describe here ? 

Mr. Kauper. Well, I think, Mr. Chairman, it is our feeling the con- 
sumer usually benefits in a whole variety of ways through competi- 
tion, and I suppose that variety would be present here. We would 
anticipate lower fare levels. We also contemplate that the consumer 
would have some choice, which in large part he does not today have. 
He does not have a choice as to whether he wants a meal served to 
him on a given plane or whether he does not. He is going to pay for 
it in any event. He does not have any choice on the fare structure. 

So I would expect we would see improvement not only when he 
pays, but in the choices available to him. Those are the normal results 
of competition, and I see no reason why we would see anything dif- 
ferent here. 

Senator Kennedy. Well, if this is carried forward, you do not think 
it will make it more difficult for the airlines to make agreements with 
regards to passenger interests, such as common baggage handling for 
connecting flights and reservation systems ? 



45 

Mr. Kauper. It should not make those things more difficult. We 
are as concerned as anybody that the joint operations which are in 
existence and provide a continuity of service to the passenger be 
continued. That is not the major concern of our proposal. 

Senator Kennedy. Do they need antitrust exemptions for those 
agreements ? 

Mr. Kauper. I think there are many kinds of agreements, and 
many of them probably do not. There may be some kind of arrange- 
ment with respect to the use of airports, for example, that might lend 
themselves to antitrust complaints, that might technically be a refusal 
to deal or so on that might invite a challenge by a third party. 

Generally, there is a pretty good concensus as to the nature of these 
agreements, and it is simply the right of the mechanics of doing it. 
There is not any particular disagreement over their nature or whether 
they should be permitted. 

Senator Kennedy. What are you doing about international rate- 
setting ? 

Mr. Kauper. I did not come up here today with all of the prepara- 
tion on international affairs, but I think what we are doing at the 
moment is participating in additional administration efforts to try 
to reexamine these policies. It is a considerably more complicated 
process and that is one of the reasons we have not addressed that. It is 
complicated by the bilateral arrangements between governments with 
respect to air carriers and a variety of things that make that a more 
complex matter. I think all I can say on that today, Mr. Chairman, 
is there is additional work going on on the whole international struc- 
ture and the fare-making process. I would hope there would be some 
additional recommendations coming out of that. 

Senator Kennedy. Do you believe that this system is really a sort 
of price-fixing cartel ? 

Mr. Kauper. Well, I do not think there is any way one could not call 
it a price-fixing cartel. It is quite clearly that. It is an agreement among 
airlines with respect to fares. Whether or not there are reasons for 
that particular structure, where, after all, you do not have a single 
government in charge of regulation, but certainly it functions just as 
any other cartel would in setting fares. In any classic definition of 
cartel, I would suppose it is one. 

Senator Kennedy. OK. 

I want to thank you very much. 

Mr. Kauper. Thank you, Mr. Chairman. 

[The prepared statement of Mr. Kauper follows :] 

Prepared Statemen^t of Thomas E. Kauper. Assistant Attorney General, 
Antitrust Division. Department of Justice 

Airline Regulation by the Civil Aeronautics Board 

Mr. Chairman, I am happy to be here today to present the views of the 
Department of Justice and to report on the work that the Administration is 
doing on economic regulation of domestic air transportation. 

Airline regulation needs review at this time. For 37 years, we have operated 
under a statutory arrangement which assumed that airline?; were like railroads, 
requiring extensive rate and entry regulation : that subsidized mail carriage was a 
dominant concern ; and that the airline busniess was an industry requiring special 
government promotional efforts on its behalf. We all know that much has hap- 
pened during those 37 years. We know that airlines are not like railroads, that 



46 

open comretition and entry policies have worked in California and Texas to 
produce higher load factors and lower fares. We know that the airlines have 
become the leading source of public inter-city transport and that the mail busi- 
ness is utterly dwarfed by passenger business. 

Airline costs affect us all as citizens, taxpayers and consumers. They affect us 
when we buy products, when we carry out our jobs, and when we travel for 
pleasure. 

Airline costs are in turn directly affected by airline regulation — for it is 
regulation which tells carriers on which routes they can conii)ete and what means 
of competition they can use. Basically, it keeps entiy tight, while allowing car- 
riers to compete in terms of service but not price. The result is, as you would 
expect, a system which sets both price and service at leAcls above what they 
would be in a competitive market, in other words, there are more planes, with 
more empty seats, and the customer pays more than he would under a regime of 
open comi>etition. Thus, competitive operations in California have generally 
produced fare levels that were 40 percent lower than the CAB approved fare 
level, while the carriers have enjoyed considerably higher load factors. 

For years, nobody much worried about CAB price and entry policies, because 
we were in a continuing trend of improving equipment, declining cost, declining 
prices and rapidly growing traffic. The airline traveler's world was getting better, 
even though CAB rate and entry regulation was probably slowing down at least 
the rate at which fares declined, and encouraging excess capacity. 

Now, however, the situation has changed. Due to sharply higher fuel and labor 
costs, airlines have requested, and the Board has approved, a whole series of 
fare increases, which have come at a time when the public at large was if any- 
thing less able to pay these fares. At the same time, the Board has actively sought 
to cut back on low-price air travel, through limitations on promotional fares and 
restrictions on charter activity. The result of all this has been to raise fares 
considerably for everyone and to raise them enormously for certain classes of 
users. The overall effect has been to produce an almost unprecedented substantial 
reduction in air travel — more empty seats on scheduled flights and fewer charter 
flights. The reduction in demand has tended to push up the airlines' unit costs, 
since they have had to spread out their fixed costs over fewer passengers. This 
in turn has provided the impetus for renewed fare increases, a situation likely to 
further reduce air travel and hence again increa.se unit costs. The resulting spiral 
of increasing fares and costs means that the smaller proportion of the public 
which can afford to fly gets reduced service at increased prices. 

We in the Administration have been studying for some time how to break out 
of this upward spiral of prices and costs. We have concluded that the most hope- 
ful avenue is a substantial relaxation of existing price and entry regulation, 
which forces, or at least strongly urges, carriers to offer excessive amounts of 
unused seats at excessively high fares. That system of regulation has in addition 
prevented innovative newcomers from coming into the business of interstate air 
transportation, in the interest of protecting the established carriers against new 
competition. We believe that more open competitive pricing, if given a chance, 
would broaden the carriers' entrepreneurial opportunities by giving them a chance 
to compete with lower fares as well as with extra seats. We believe that it would 
tend to bring interstate air transportation more into line with what we saw in 
California and Texas : an environment of lower fares and fuller planes. If this 
occurs — and both actual experience and economic theory suggest that it will — we 
will have found a basis for breaking the cycle of rising costs and declining serv- 
ice. Lower prices are likely to come quite quickly and lower prices are likely to 
encourage new traffic quite quickly. By the same token, liberalized entry rules — 
an environment with less emphasis on route protection — are likely to get onto 
the routes those carriers who are most eflicient at serving them. In a competitive 
environment, such efficiencies can in turn be passed on to the traveler in the form 
of lower fares. 

The Department's perspective on airline regulatory problems is based of course 
on our experience in enforcing the antitrust laws in a great variety af industries 
having a diversity of cost and capital characteristics. It is based on our extensive 
participation before the CAB in a variety of proceedings. And it is based on our 
experience in antitrust enforcement in other regulated industries, some of which 
have economic characteristics similar to those of air transportation. Our experi- 
ence tells us that regulated firms I'arely welcome freer entry rules and more 
flexible pricing. They generally want to be protected from outsiders and protected 
from each other by a benevolent regulator. In the airline field, regulated firms 



47 

generally have opposed pricing flexibility and offered capacity cartel agreements 
instead, let our experience also tells us that in fact competition works in reg- 
ulated environments much more efficiently than the regulated firms generally 
believe; and we find increasing use of competition in place of direct regulation 
as a tool to promote efficiency in a number of regulated environments, ranging 
from wholesale electric power to securities markets. 

The Department is currently working with the Department of Transportation, 
the Council of Economic Advisers, the Council on Wage and Price Stability and 
the Office of Management and Budget to develop detailed Administration pro- 
posals which respond to this reality in the transportation sector. We hope to 
have detailed proposals for air transport regulation reform for presentation to 
the Congress in the near future. At this point, these agencies have arrived at a 
broad consensus in principle, which we will discuss today. 

We all agree that regulation of rates and routes has been excessive and has 
inflated present cost and fare levels. 

We believe the government should regulate the airlines where necessary to 
ensure the safety and reliability of air transportation — but this clearly does not 
require direct government regulation of airline pricing and entry to the current 
extent. We believe the focus of government regulation of the airlines should be 
on these essentially noneconomic goals, with clear standards and procedures 
which ensure that regulatory powers are not used to unnecessarily limit competi- 
tion. Even if full rate regulation is deemed necessary to deal with certain prob- 
lems — for instance, the prevention of monopoly pricing in certain markets — 
such regulation should be carefully crafted to limit and clarify goals, standards 
and procedures. 

The present Federal Aviation Act does not identify limited specific economic 
goals and set forth standards and procedures to achieve those goals and avoid 
undesirable side effects. Rather, it offers the Board an open-ended mandate, 
which can be — and frequently is — used to protect carriers rather than the travel- 
ing public, and to protect operating inefficiencies which ultimately must be paid 
for by the public. 

Reform only of procedural (rather than substantive) provisions of the Act 
cannot correct the fundamental problem of its ambiguous and sometimes conflict- 
ing stated objectives. 

Procedural reform of the Act might well be desirable, but it is not likely to be 
successful without a narrowing and clarification of the standards the Board 
may apply in making economic decisions, and of the scope of airline activities 
subject to those decisions. Such a redefinition of the Act's economic goals and 
standards would be a substantial improvement. And in our view, such a re- 
definition would call into question the continued usefulness of much of present 
economic regulation. 

The Administration group also agrees that the CAB should not be given broad 
authority to immunize from the antitrust laws all the private agreements and 
mergers it approves. Accordingly, our proposals will provide for a much narrower 
area of antitrust exemption, and for a merger approval approach generally 
modeled on the Bank Merger Act of 1966 (which allows the courts to adjudicate 
the legality of a merger under the antitrust laws, subject to agency participation 
on broader public interest issues). 

To explain the basis for these rather broad conclusions, I will sketch briefly 
the circumstances which led to the imposition of federal economic regulation of 
the airlines, describe what I believe tojie the lessons of major CAB economic 
regulatory proceedings, and attempt to outline some preliminary conclusions. 

I. A BRIEF HISTORY OF FEDERAL ECONOMIC KEGTJLATIOX OF AIR TRANSPORTATION 

Federal regulation of air transportation has developed primarily along two 
paths : one set of statutes which regulate safety, airport and airway affairs, and 
another specifically directed toward the regulation of the economics of air trans- 
portation. Tl.e first category of statutes has been the responsibility of the Depart- 
ment of Transportation and the National TransiJortation Safety Board for 
several years.^ The economic regulatorj- system which the Civil Aeronautics 
Board administers is now embodied by the Federal Aviation Act of 1958, as 
amended.* 



1 Federal Aviation Act of 1958. 72 Stat. 7.31. 49 U.S.C. 1301 et seq. ; Department of 
Transportation Act 1966, 80 Stat. 931, 49 U.S.C. 16.51. 
a Id. 



48 

The origins of airline economic regulation are usually traced to the Civil 
Aeronautics Act of 1938,^ which generally followed the outline of the Interstate 
Commerce Act in setting up most of the major regulatory features of today's 
Federal Aviation Act. There had been partial economic regulation of air carriers 
prior to 1938, however. After experimenting with several different means of 
administering a system of subsidized air transport of mail, the Congress deter- 
mined in 1930 to grant the Postmaster General broad powers over the routes, 
rates, and practices of carriers carrying air mail under contract with the 
government.* In 1935, the Congress broadened this regulation to prohibit car- 
riers with air mail contracts from engaging in any service on routes other than 
their airmail routes if such service would compete with another carrier having 
an airmail contract on that route.* The predominance of mail over passenger 
service was rapidly diminishing throughout this period, however, and by 1937 
air carrier income from passenger service was twice as great as mail income." 
Unregulated carriers without airmail contracts began to compete with airmail 
carriers, who naturally complained about their unregulated competitors' greater 
economic freedom." 

The Interstate Commerce Commission, v.'hich obtained economic regulatory 
powers over motor carriers in 1935,** pressed for the extension of economic regu- 
lation over all air carriers." under the general theory that it is unfair and 
"chaotic" for unregulated firms to be allowed to compete with regulator firms.^" 

The protection of a sul)sidized airmail system was a vital objective of the 
drafters of the 1938 Act. Even today, a very high percentage of the provisions of 
that Act, as amended, still are concerned with the carriage of mail. Today, 
although the mail system is of crucial importance, it is a small percentage of the 
air transportation business. There certainly would be no logical basis today for 
designing the entire air transportation system around the mail system, because 
the needs of the postal service can be met with relatively small and specific 
modifications to the larger air system. 

Just as the "chaotic" conditions generated by the efforts to develop an airmail 
system have disappeared today, we no longer experience two other very important 
factors which led to the creation of airline economic regulation in 1938. The 
Great Depression had shaken our .society's confidence in the free market system, 
and led to a number of laws which substituted direct government economic regu- 
lation of business organizations for the maintenance of free conii>etition. Also, 
air transportation in the 1930's was thought to suffer from undue division of 
governmental regulatory authority among the Commerce Department, the Post 
OflSce Department, and the Interstate Commerce Commission, " and it was con- 
sidered a very important function of the 1938 Act to combine and coordinate 
all of these functions within one agency." Thus, the 'caotic and destructive" con- 
ditions which frquently are thought to be the 1938 Act's genesis are now only a 
matter of history. 

As this history indicates, airline regulation must be viewed against the partic- 
ular background of the circumstances which created it in order to understand 
its goals. Various parties involved in the drafting and pas.sage of the original 
1938 Act made references to their desire to allow regulation of "chaotic" competi- 
tion among air carriers, and given the above description of the Act's historical 
context, such as desire seems understandable. The drafters of the Act, however, 
vehemently denied any intention to allow the Board to restrain competition or 
create monopolies." The Act itself directed the Board to maintain "competition 
to the extent necessary" to pursue other rather inclusive goals," and explicitly 



3 52 Stat. 973. 

*46 Stat. 259 (1930). 

B49 Stat. 619. 

«C. S. Rhyne, The Civil Aeronautics Act Annotated (1939), p. 35. 

T Id. 32-33. 

s Motor Carrier Act of 1935, 49 U.S.C. 301 et seq. 

9 Rhyne, supra, 32-33. 

1" The ICC advanced similar arjcuments with re.spect to competing surface modes. Boies, 
Experiment in Mercantilism : Minimum Rate Regulation by the ICC, 68 Colum. L.R. 599, 
614-15 ; J. Meyer, M. Peck. J. Stenason, C. Zwich, Economics of Competition in the Trans- 
portation Industries 10 (1964) ; Report of the Attorney General's National Committee to 
Study the Antitrust Laws 269 (1955) ; Coordination of Motor Transportation, 183 ICC 
263 (1932). 

^ As noted above, certain of the noneconomic regulatory functions conferred upon the 
CAB's predecessor agency were later transferred to other agencies. See note 1, supra. 

"H. Rept. vo. 22.54. 75th Cong., 3rd Sess., April 28, 1938; 83 Cong. Rec. 5960. 

"83 Cong. Rec. 6729-32. 

" Section 1, 49 U.S.C. sec. 1301. 



. 49 

directed the Board to observe conventional antitrust principles in deciding merger 
and interlocking control cases/^ 

The Act s reliance upon competition among air carriers shows that the Con- 
gress clearly did not regard air transportation operations as having "natural 
monopoly" characteristics which required government control in the place of the 
discipline of competition. Unlike the usual statute regulating a •"natural monop- 
oly,' the Act does not require, but rather prohibits, government control of the 
regulated firms" investment in equipment or facilities, and of the specific services 
tliey provide under their certihcates." Instead of detailed control of the rate 
base, regulation was extended to fares, entry and exit from specific routes, and 
agreements and mergers. 

Other characteristics of the original 1938 Act seem to have been included 
largely because the Interstate Commerce Act was taken as a model. Thus the 
1938 Act prohibited discrimination, preference or prejudice among various users 
of air transportation, requireu joint fares for connecting trafiic, and allowed 
classification of regulated air carriers into various categories. 

II. THE LESSONS OF MAJOR CAB ECONOMIC PROCEEDINGS 

With that background on the origins of the present Act, I will now turn to the 
way it has been administered, and what we have learned in the process. 

Market structure 

The first category of major CAB economic cases are those in which the basic 
structure of the airline industry itself was at issue. In the last 15 years, the 
Department of Justice has opposed three major trunk air carrier merger pro- 
posals,^' which, had they been approved, would have substantially redrawn the 
route map of the U.S. domestic system, and considerably increased the already 
very great concentration of the airline industry in the hands of a very few large 
trunk air carriers. 

In 1962, we opposed the proposed American-Eastern merger before the Board. 
The hearing exajniner ruled in our favor, finding that consummation of the merger 
would create an airline with more than one-third of the entire domestic airline 
industry's business, greatly increase existing economic concentration in the air- 
line industry, create a regional monopoly in the northeastern United States, and 
create numerous city-pair monopolies within that region. The merger proposal 
was subsequently withdrawn. 

Ten years later, the Department opposed the merger of Western Airlines with 
American on similar grounds, although there was very little actual overlap 
between the American and Western systems. The hearing examiner recom- 
mended disapproval, essentially on nonantitrust grounds, and the merger was 
withdrawn after the Board issued an order disapproving it. 

A merger proposal between National Airlines and Northwest Airlines, which 
we opposed on the grounds that it would increase concentration in the trunk 
airline industry and destroy important potential comi^etition between the two 
merger partners, also was withdrawn after the hearing examiner issued a decision 
recommending disapproval on antitrust grounds. In the last few years, the 
Department also has studied several other major airline merger proposals 
which were never filed and litigated at the CAB. 

These merger proposals have raised very serioug questions as to the proper 
structure of the industry, both as to the need for the proposed merger and as 
to its likely effect on competition and other important economic processes. As a 
result of studying, testing and arguing the evidence in these cases, we have 
come to the conclusion that in the absence of economic regulation, the air trans- 
portation industry probably would have a reasonably fiexible, competitive 
structure which would serve the public better than the present government- 
controlled structure. Experience under economic regulation, and in unregulated 
air transportation where available, indicates that the industry tends to have a 
"competitive" structure, rather than being a "natural monopoly" which must be 
regulated in the interests of the public. 



IS Section 408(b), 49 U.S.C. sec. 1378. 

"Section 401(e)(4), 49 U.S.C. sec. 1371. 

" See American-Eastern Merger. Recommended Decision of Hearing Examiner Ralph L. 
Waser, docket 13355, November 27, 1962 ; American- Western Merger Case, orders 72-7-91 
and 72-7-92, and docket 22916, June 13, 1972 ; Northwest-National Merger Agreement, 
Recommended Decision of Associate Chief Examiner Robert L. Park, docket 23852, May 22, 
1972. 



51-146 O - 76 - pt. 1 - 5 



50 

Evidence is quite abundant that there are no important economies of scale in 
air transportation ; that is, larger firms are not more efficient or less costly simply 
because of their size. In fact, other things being equal, the largest air carriers 
tend to have a higher level of unit costs, and there are some indications that 
these increased costs are caused by the difficulties of managing an airline of 
very large size.^^ 

The reasons for this are apparent — the airlines' "right of way" is the air itself, 
and their "tracks" if any, are the air traflSc control guideways maintained by 
the Federal Government. Well over 80 percent of the airlines' investment is in 
flight equipment, which is among the most mobile of assets, rather than in fixed 
assets, as is the case in the classical "natural monopoly." " Not only does this 
make competitive service economically feasible, but it makes duplication of routes 
far less risky, because competitors can more easily adjust their operations by 
rescheduling an aircraft from one city-pair to another — assuming that the gov- 
ernment does not prevent them from doing so. 

In view of this conclusion that air carriers will not become more eflScient or 
more profitable by merging to become larger, why have so many mergers been 
proposed? Perhaps the most important reasons for mergers among the regulated 
air carriers have been the effects of regulation itself. Air carriers knovv that 
when they hold a certificate, it is the nature of economic regulation that the 
Board will to a greater or lesser degree protect them from entry by new com- 
petitors on that route. Similarly, the air carriers knovv that they cannot expand 
onto a new route without obtaining a certificate. Consequently, any certificated 
air carrier, no matter how poorly run and how debilitated financially ana opera- 
tionally, has one very valuable asset — its route certificate. This asset typically 
has been sold by merger of weak carriers into stronger carriers. As a result, no 
large federally certificated air carrier has gone out of business other than through 
merger with another federally certificated air carrier. Because the Board has 
allowed virtually no new firms to join the ranks of tlie certificated air ca.riers, 
there has been a steady diminution in the number of air carriers with certificates 
from the Federal Government. 

It has been observed that during the period when California intrastate airlines 
were essentially free from economic regulation, many firms entered and left the 
market, but none of them left the market through merger. One very careful eco- 
nomic study of this phenomenon, and the contrast between unregulated California 
airlines and the regulated interstate airlines makes a convincing and apparently 
unrebutted case that in the absence of economic regulation, there probably would 
have been many more competing airlines in the United States than the CAB has 
allowed to exist.*" 

As long as new certificates are not freely given, one would expect that there 
would be some transfer of certificates as carriers seek to reorganize their route 
authorities. However, sale or trade of certificate authority has been fairly rare, 
although not unprecedented, becau.se until lately the Civil Aeronautics Board did 
not encourage such "trafficking in certificates." Recently, the Board's willingness 
to consider transfer of certificate authority has led to a number of "route swap" 
proposals. 

When there is limited entry, we believe that transfers of certificate authority 
very well may provide a practical means of reorganizing certificated route author- 
ity in a form more closely aligned with the economic or operational requirements 
of the air transportation system. The carriers' objective in a route swap is, of 
course, to increase profits. In cases where the increase in profits would take place 
becau.se the route can be served more efficiently as part of the transferee's route 
system, we believe the transfer of authority may well be in the public interest. 

Tlie motive for a route transfer, however, may be to eliminate competition, as 
where two carriers both possess authority on a given route, and one proposes to 



"In the American-Western Merger Case, (locket 22916, see exhibits DOT-T-1 ; CO-RT- 
500, pp. 7. 16-24; CO-R-512-ol7 ; CO-R-.528-529 ; RW-120-12,5 ; RW-SR-900 ; BOR-R- 
100. In the National-Northwest Merger Case, docket 23852, see exhibits DOT-T-1, DJ-1, 
DJ-RT-1, and Transcript pp. 1412-13. 

The numerous academic studies in this area apparently all conc'ude that there are no 
economies of scale in the airline industry above the size of the very smallest air carriers. 
See sources cited in G. Douglas and .1. Mil'er. Economic Regulation of Domestic Air Trans- 
port (1974), pp. 14-15, and W. .Tordan, Airline Regul.ition in America (1970), pp. 191-194. 

The Board itself hf\s endorsed in general terms the conclusion that there are constant 
returns to scale in the industry. Domestic Passenger Fare Investigation, phase 5 — Dis- 
count Fares, order 72-12-18 (December 5. 1972). p. 48. 

" \merican-Western Case, supra, exhibit D.T-RT-1, p. 5 ; see also order 72-12-18, supra, 
p. 48. 

20 Jordan, supra, pp. 14-33. 



51 

transfer its authority to the other, eliminating competition between the route 
swap partners on that route. In such cases the public is likely to be injured by 
the xeduction in competition on that route. We have opposed some anticompeti- 
tive route exchange proposals, notably the American-Pan American route ex- 
change involving Caribbean and South Pacific routes,"' and the Pan American- 
TWA agreement,'- which involves both Atlantic and Pacific routes. 
Generally speaking, route transfers, including the reciprocal route transfers cur- 
rently called route exchanges, are merely partial mergers. Consequently, as with 
mergers, there would be far fewer route transfers, if any, in the absence of entry 
restrictions.^^ 

We have seen that the "natural monopoly" argument for regulating entry and 
exit finds no support in the facts of air transportation economics. Other asserted 
reasons to regulate entry and exit from air transportation markets are that 
without such regulation, there would be "destructive," or predatory conduct by 
airline firms, and "chaotic" conditions would constitute a serious public detri- 
ment. Let us examine these fears in turn. 

In order for predatory conduct to pay off, it is necessary for a firm to go through 
two processe.< : First, it must drive competitors from the market by using preda- 
tory practices, such as below-cost price cuts ; this kind of conduct is costly to the 
would-be predator. Second, the predator must recoup those costs by using the re- 
sulting freedom from competition to behave like a monopolist. This second step 
will not be possible if the firms which were driven out can reenter the market 
quickly and easily. As I have explained, entry into air transportation markets 
generally would not be difficult to accomplish quickly if there were no government 
restriction. Accordingly, the economists who have written on this matter have 
concluded that the prospects for profitable predatory conduct are poor in this 
industry.-* 

Given these economic facts, governinent regulation of entry actually can cause 
the predatory conduct it is supposed to prevent. A government prohibition on 
entry can be the most effective insurance possible for a predator which is trying 
to recoup the costs of predatory conduct. 

Of course, if predatory conduct does take place in the airline industry, it is 
subject to the antitrust laws just as it is in another industry, if it is not somehow 
immunized by government action. 

In the New England sen'ice investigation, where the benefits of entry and exit 
regulation for small (and presumably relatively less stable) air carriers were 
directly in issue, the Administrative Law Judge found on the basis of the record 
tliat there had been no evidence of predatory behavior.^^ The proponents of entry 
and exit regulation in that case argued, and the Board agreed,^ that there is a 
public interest in "continuity of service" which requires some entry and exit 
regulation. We question this re. ult, in view of the Administrative Law Judge's 
uncontroverted finding that although commuter carriers had entered and exited 
several New England markets, there had been no significant lapses of service to 
the public because of this turnover."' In light of these facts, the "continuity of 
.service" which entry and exit control brings is not an assurance of service to the 
public, but an assurance of tenure to the carrier. Essential public facilities such 
as grocery stores and i harmacies do not enjoy this type of protection from com- 
petition, and we see no reason why air carriers should. 

Pricing 

The Department of Justice has been very selective in participating in fare pro- 
ceedings at the Civil Aeronautics Board,, because the economics of the industry 
change rapidly enough to seriously limit the future applicability of many deci- 
sions as to specific fare levels. As a result, participation in complex proceedings 
on specific fares may produce considerably less important benefits than one would 
expect from the same expenditure of effort in a structural proceeding. The 
Department did participate in the Board's recent Dome.stic Passenger Fare Inves- 
tigation (DPFI), however, because we believed the Board's decisions in that pro- 



=1 American Airlines, Inc.-Pan American World Airways, Inc. Route Exchange Agree- 
ment, docket 26245 (pending). 

22.\pplication of Pan American World Airways, Inc. and Trans World Airlines, Inc. for 
Approval of an Agreement, docket 27114, et al. 

23 See American-Western Merger Case, exhibit DJ-RT-1, supra, pp. 6-10. 

=* See sources cited in A. Kahn, The Economics of Regulation, pp. 219-20. 

^ Initial Decision of Administrative Law Judge Greer M. Murphy, docket 22973, July 9, 

ig?.-?. p. 75. 

2« Order 74-7-70, July 17, 1974 ; p. 15. 

" Initial Decision, New England Service Investigation, supra, p. 75. 



52 

ceeding not only would bring important revisions in the level and structure 
of all domestic airline fares, but would set the rules under which that level and 
structure would be set for many years to come. Largely on the basis of compre- 
hensive evidence produced by the Department of Transportation, we became 
convinced that airlines would be more efficient and less likely to engage in waste- 
ful service competition — flying empty seats and piano bars — if the Board en- 
couraged them to compete on the basis of price, instead of preventing them from 
doing so by fixing one fare which all carriers must charge. 

The key point here is that the economic characteristics of the airline industry 
are such that even when the government eliminates price competition, carriers 
still have the incentive to compete, and will compete any way they can, if only 
through "frills" which are less important to passengers than price. Once a flight 
is scheduled, the cost of carrying additional passengers in the airplane is very 
low compared to the cost of flying the airplane in the first place. Thus, the mar- 
ginal passenger on a flight is very profitable — any competitive initiative which 
diverts passengers onto an airline's flight may pay off richly. 

In scheduled service, it appears that next to price, the variable most important 
to the passenger on a scheduled airline flight is the ability to find a .seat on a 
flight at or near his preferred departure time. Consequently, when the price is 
fixed, competitive rivalry is diverted into capacity competition — competing car- 
riers offer large numbers of flights in an attempt to cover as many preferred 
departure times and attract as many customers as possible. The evidence in the 
recent capacity agreements case is quite convincing that, even under the present 
system of uniform fares, carriers do not have the incentive to offer ruinous 
amounts of capacity simply because of this phenomenon. But it is clear that fare 
regulation has caused the airlines to oft"er the consumer large numbers of flights 
and empty seats instead of cheaper transportation. Stated another way, they 
have tended to "compete away" the "monopoly profits" generated by excessively 
high regulated fares. 

Allowing price competition by the airlines would give them an incentive to 
offer consumers a choice as to the combination of fare and load factor they 
want, and all the evidence is that the result would be that lower fares would be 
available to the users of scheduled interstate flight. The experience of the intra- 
state carriers in California and Texas confirms this. Of course, higher load factors 
also would be involved— but all this tells us is that the public would rather pay 
considerably less for travel even at the price of being somewhat less certain of 
getting on their first choice of flight. Accordingly, we were disappointed when the 
Board rejected the arguments of the Department of Transportation and Justice 
in favor of allowing air carriers to price freely within a "zone of reasonableness" 
instead of requiring a rigid adherence to one identical fare for all carriers offer- 
ing service in a particular market. 

We were gratified that the Board decided in phase 6 of the DrFI to base its 
fare decisions upon load factor and seating configuration standards which ex- 
cluded from the rate base any service amenity not included in the Board's stand- 
ard for such service. 

Under the Phase 6 policy, the fare is based on the amount of capacity associ- 
ated with a standard load factor, in a standard aircraft configuration set by 
the Board, rather than the actual load factor and configuration of a 
particular carrier or the industry. We believe this approach can allow carriers 
greater freedom to experiment with different levels of capacity and types of 
service without being deprived of the motive to keep their services as economical 
as possible. In Phase 6 and the related coach lounge proceeding,^^ we argued 
that the Board violated the spirit of its Phase 6 policy by attempting to punish 
a carrier offering a different type of service by requiring that carrier to charge 
a different fare, rather than simply requiring that carrier to charge a fare 
based upon the more economical aircraft configuration which the Board adopted 
as its standard. This was the first proceeding in recent years in which we 
carried our disagreement with the Board to the Court of Appeals, and this 
matter is now pending rehearing en banc on the Board's motion after a decision 
favorable to our position. 

We also have pending in the Court of Appeals a review of the Board's 
decision to extend rate regulation to the charter field for the first time, despite 
numerous arguments in opposition. 



2" ChicaKo-Los Angeles F.ire Hednction Case, docket 25r-,H7, now pending action b.v the 
court of appeals as Continental Airlines, Inc. v. Civil Aeronautics Board, D.C. Cir. Nos. 
73-1714, 73-1718. 



53 

Competitive Restraints 

it dP<^i<i^''f ^ generally has applied a specific "rule of reason" standard when 
It decider whether or liot to approve an agieement which restrains competition. 
tftU\ . '*" agreemeut would have substantial anticompetitive effects under 
established antitrust principles, it will not be approveu unless approval is the 
only nay to meet a serious transportation need or secure important public bene- 
nts.- Until very recently, the Department of Justice has not participated in very 
many proceedings concerning air carrier conduct subject to regulation by the 
Civil Aeronautics Board. In recent years, we have opposed capacity restraint 
agreements which have been in effect in several markets on the basis of various 
purported jusufications. The capacity agreement question, too, is pending in the 
Court of Appeals. 

The capacity reduction agreement case, in which we participated in a lengthy 
hearing at the Civil Aeronautics Board last year, dealt with several issues of 
general competitive significance, and we believe the record of that proceeding 
casts further doubt on the need for the existing type of economic regulation in 
air transi)oration. Specifically, proponents of capacity agreements were able in 
that proceeuing to proauce virtually no evidence that carriers which flood the 
market with schedules tend to attract a greater proportion of passengers from 
their competitors, so that even under the present fixed price-no-entry conditions 
of the regulated air transport industry, carriers do not really have economic 
incentives to engage in ruinous overschedaling. 

The evidence established instead that overcapacity and misallocation of ca- 
pacity in the regulated air transportation system can be traced to economic 
regulation actions by the Board, primarily the prescription of noncompetitive 
fares which allow breakeven operations at low load factors, and a record of 
"bailing out" carriers which make improvident competitive decisions. 

The capacity case was unusual in that the Administrative Law Judge ordered 
some very informative discovery into the decisionmaking process of the air carrier 
proponents of capacity restraint agreements. One fact that emerged was that if 
the Board were to strictly enforce its Phase 6 load factor standards, air carrier 
management would reduce the level of excess capacity in the industry, provided 
it believed that the Board would not take regulatory action to protect air carrier 
profits despite their failure to observe the load factor standards.^ Unfortunately, 
the Board has on occasion acted to "bail out" individual carriers which get into 
trouble ; the carriers know this, and they act accordingly. Thus, even an enlight- 
ened and potentially effective regulatory policy such as the Board's load factor 
standard can be impaired or negated by the regulator's natural and perhaps 
inevitable proclivity to protect the firms it regulates. 

The capacity agreement case also illustrates another generic problem with 
economic regulation : these anticompetitive agreements were instituted not in 
markets where any economic problem existed, but in the largest, more profitable 
markets of the largest air carriers.^^ Such anticompetitive restraints were neces- 
sary, argued the Board's Bureau of Operating Rights, in order to produce higher 
than normal profits, in some markets, profits which in theory could be used to 
cross-subsidize markets in which average profits could not be obtained.'^ 

Arguments that the Civil Aeronautics Board should effect a sub rosa tax upon 
one class of consumers for the benefit of another illustrate, we believe, the un- 
fortunate results of giving an economic regulatory agency quite comprehensive 
powers, and only the vaguest statutory directives as to how those powers are to be 
exercised. The legislation which set up o^r present system of economic regula- 
tion of air carriers did not at any point direct the Board to tax some consumers 
for the benefit of others, but it did provide the Board with the tools to do so 
and with a set of conflicting, vaguely worded objectives, one of which always 
could be selected to justify such anticompetitive actions. 
Antitrust Immunity 

Under the present Federal Aviation Act, the Board has power to approve or 
disapprove mergers (Sec. 408), control relationships (Sec. 409), and agreements 



=9 Local Cart^ffe Ajrrepment Ca^e 15 CAB 8.50 (lft.52> ; North Atlnntic Tourist Com- 
mission Case, Ifi CAB 225, 226 (1952) ; Six Carrier Mutual Aid Pact, 29 CAB 158 (1959). 
The Siinreme Court has confirmed the annronriateness of nn irientlcal st-'ndnrd in 
Fderal Maritime Commi/tnion v. fivenxka Amerika Linien. ,390 TT.S. 2.'?8, 244. 246 (1967). 

sofnnncitv Rpdnction Apreement Case, docket 2290S exhihit D.T-A and testimony of 
Rindnll Mali". tra"scrint 486-94 : see also tran.scrint 2579. 1410-11. 

31 Docket 2290S. Brief of the TTnl+ed Stntes Department of .Tustice to the Administrative 
Lnw ,Tm1ee. no. 18-2.3 ; Replv Brief, np. 10-14. 

^Docket 22908, Brief of the Bureau of Operating Rights to the .Administrative Law 
Judge. 



54 

among air carriers (Sec. 412). Section 414 of the Federal Aviation Act provides 
that the antitrust laws shall not apply to persons affected by CAB orders issued 
under these three sections of the Act, to the extent "necessary to enable such 
person to do anything authorized, approved, or required by such order." (49 U.b.C. 
1384) The public interest would be better served if each of the three types of 
transactions as to which the Board can confer immunity were evaluated under 
the standards of the antitrust laws, rather than the general "public interest" 
rubric of an administrative agency. . ^ ^ ^, 

If economies of scale were more prevalent in the air transport industry than 
in the general economy, and these economies were considered more important than 
the advantages of having an unconcentrated air transport industry, there might 
be a basis for applying agency review and antitrust immunity with respect to the 
three areas subject to the section 414 immunity provision. It is manifest, how- 
ever, that such economies of scale do not exist, and there is no other evidence 
that anticompetitive industry structure or conduct is any more in the public 
interest in the air transport industry than in the economy in general. Thus, these 
types of transactions should be subject to the standards of antitrust law, not 
administrative law. 

It would be desirable to remove the antitrust immunity provisions of section 
414 even if these three types of transactions remain subject to administrative 
review. This would insure that the administrative agency would not follow a 
less procompetitive standard than that of the antitrust laws; the safest way 
to do this is to eliminate any inference that the Board's approval brings immunity 
from an antitrust lawsuit. See, e.g., United States v. Philadelphia National Bank, 
374 U.S. 321 (1963). The agency thus would be free to apply a higher standard 
of protection for competition but not a lower one. This is the approach of the 
Atomic Energy Act of 1954 (42 U.S.C. Sec. 2135). 

The existence of the section 414 immunity provision creates the possibility of 
a lowering of competitive standards not only in the regulated air transportation 
industry, but also in industries not regulated by the CAB. In a recent decision, 
the Supreme Court held that a private antitrust action against Hughes Tool Co., 
a person engaged in aeronautics, was barred by the Board's approval of and 
continuing jurisdiction over the control relationship which was the basis of the 
antitrust complaint. The antitrust complaint had centered upon the approved 
transactions' competitive effects in the commercial aircraft manufacturing in- 
dustry, not in the air transportation industry which is regulated by the Board. 
(Hughes Tool Co. v. Trans World Airlines, Inc., 409 U.S. 363, 366). Thus, the 
effect of the Court's decision may be to allow the Board to create immunity from 
the antitrust laws — presumably applying the standards of administrative law — 
in industries where it has only limited jurisdiction to protect competition, or no 
jurisdiction at all. 

If any special characteristics of air transportation require departure from the 
undiluted application of the antitrust laws, such departure should be effected by 
a procedure similar to that of the Bank Merger Act of 1966. Under that statute 
a specialized regulatory agency first passes upon whether a merger would violate 
the antitrust laws, and whether it should nevertheless be allowed because of spe- 
cific overriding public benefits which could not be obtained by any other means. 
The transaction is then subject to de novo review by the United States in a Dis- 
trict Court. 

III. CONCLUSIONS 

The Board has used its comprehensive powers and amorphous policy mandate 
in part to promote what it perceives as stability and "financially sound condi- 
tions" in the industry. Each regulated air carrier is confined to a particular class 
or type of service on particular routes. Along with mergers and route protection, 
the result has been an ever dwindling number of competitors within each regu- 
lated category. There is abundant evidence that this protection against competi- 
tion has in itself led to considerably higher prices and lower eflBciency than 
would be available in the absence of entry control.*" 

This imposes .serious economic costs directly upon consumers of air transpor- 
tation, and indirectly upon the entire economy. In addition to these direct costs, 
regulation restricts the freedom of air carriers to enter and leave markets as 
market forces indicate, and instead require them to go through expensive, time- 



rs See sources cited in Douglas and Miller, supra 42, 54 ; 172. 



55 

consuming and unpredictable legal processes before engaging in normal rearrange- 
ments of tlieir operations. This has generated waste, inflexibility, and insensitivity 
to the desires of consumers. It also has kept out of the industry many firms which 
could have made valuable contributions. 

The fare policy of the CAB appears to have taken a turn for the better in some 
respects as a result of the DPFI. As I have explained above, actual enforcement 
of the load factor standards could bring considerable progress toward breaking 
the declining load factor, escalating price cycle. Also in the DPFI, the Board 
found that cross-subsidization is inefllcient and adverse to the public interest, 
and moved to reduce the cross-subsidization inherent in the present fare struc- 
ture. " As the discussion above indicates, however, it remains to be seen whether 
the Board will follow through on these principles and apply them everywhere 
they need to be applied. 

In the area of pricing flexibility, there has been little change. The Board 
reaffirmed in the DPFI the practice of pricing on an industry average basis so 
that all regulated carriers, regardless of their relative efficiency, will continue 
to survive, and none will have too great an incentive to develop a greater level of 
efficiency than that of its fellow regulatees. This "cost-plus" pricing policy has 
deprived consumers of a variety of price and quality options. Given the carriers' 
tendency to engage in service competition which the Act allows the Board to 
regulate only indirectly, the result is not even high profits — just waste. 

All of these problems, plus the recent economic downturn and fuel price crisis, 
have led the Board in recent years to move into one area it previously had largely 
avoided — the approval and even promotion of anticompetitive agreements such 
as pooling, capacity restraint agreements and "route swaps" which in reality 
amount to enforceable agreements not to complete. The common goal in each of 
these recent agreements has been to decrease or at least stabilize competition and 
increase the rate of return in the industry. The result, in many instances, has been 
a serious decline in the quality of service coupled with a dramatic increase in 
prices over and above increases required by costs such as the increased cost of 
fuel. 

What can be done about this? The Department of Justice and other litigants 
sometimes can help maintain a degree of reliance on competition, but under no cir- 
cumstances do we believe such litigation brings optimum results. Parties seeking 
to infiuence the Civil Aeronautics Board toward more competitive policies are 
hampered by the vagueness and inclusiveness of the statutory standards among 
which the Board may choose to justify its decisions, and are hamjiered by judicial 
re-straint in reviewing crucial aspects of agency decisionmaking. This is exacer- 
bated by the very serious costs and delays of litigating economic issues, both 
before the lioard and in the courts. 

These problems will be dealt with in greater detail in later sessions of these 
hearings. It will suffice to say now that we do not believe the serious problems 
of air transport economic regmation will be satisfactorily corrected by litigation 
under present statutory standards, although such litigation can help somewhat. 

Neither do we believe that the optimum answer lies in the reform of procedures 
under which air carrier economic regulation is carried out. Unnecessary regula- 
tions is still expensive even if carried out under clear standards and optimum 
procedures. It would be possible to have a much narrower statute seeking spe- 
cific goals with definite safeguards for competition and economic efficiency. In 
air transportation, the fundamental goal would be the provision of efficient air 
transportation to the public by qualified tommon carriers using safe planes and 
qualified crews. A tightly drawn statute would prevent the Board from limiting 
competition unless it made findings on the record that competition would com- 
promise safety or reliability of service. Even under such a statute, the problem 
of preventing regulation from pursuing other, anticompetitive goals might prove 
difficult. 

Specifically, we believe that new legislation should move toward the following 
goals. First, entry and exit restrictions should be greatly liberalized. Second, rate 
flexibility should be introduced through a phased process, perhaps initially using 
a zone of reasonableness. Regulatory intrusion with regard to rates within that 
zone would not be permitted. Finally, existing antitrust immunities should be 
removed, along the lines suggested earlier in this statement. 

There is a broad consensus that reform must proceed along all three of *^hese 
fronts. The Administration has thus concluded that it would be appropriate to 



Order 74-3-82, p. 72 (March 18, 1974). 



56 

move toward much more reliance upon competition in the air transportation in- 
dustry, and much less reliance upon government economic regulation. We expect 
to present specific legislative proposals within a short time to the Congress, and 
specifically to this Committee. 

Senator Kennedy. Mr. James Miller, currently senior staff econ- 
omist for the Council of Economic Advisers, received his Ph. D. from 
the University of Virginia in economics, formerly served on the senior 
staff for the Republican Party from 1969 to 1972. In 1973-74 he was 
an assistant associate professor, now on leave; he edited a number of 
books, including economic regulation of domestic air transport. We 
also received a statement from his coauthor, Mr. George Douglas 
which we will make a part of the record. 

[The prepared statement of George Douglas, professor of economics. 
University of Texas, is included at the end of the testimony of this 
day (February 6, 1975), p. 437, below.] 

STATEMENT OF MR. JAMES MILLER, SENIOR STAFF ECONOMIST, 
COUNCIL OF ECONOMIC ADVISERS 

Mr. Miller. Thank you. 

Mr. Chairman, we have a prepared statement that I ask be inserted 
into the record. Mr. Seevers is unable to be here and sends his regrets. 
As you know, today the Joint Economic Committee is hearing testi- 
mony by the full Council on the economic report. 

Senator Kennedy. That is where I am supposed to be, too. 

Mr. Miller. In our testimony we deal basically with three issues. 
The first is the cost of airline regulation. The second is the efficiency 
of a hypothetical totallj^ deregulated market. Finally, we outline, as 
Messrs. Barnum and Kauper did, the kinds of proposals the admini- 
stration is presently discussing in formulating a legislative package. 

On several occasions this morning, questions have arisen about as- 
pects of less regulated or totally deregulated markets that many people 
question. We deal with several of these in the testimony. I would like 
to briefly respond here. 

SAFETY AND COMPETITION 

First, on the question of safety, the Federal Aviation Administra- 
tion is the governmental instrumentality charged with regulation of 
safety in the airlines. On the basis of theory and evidence, there is 
a lot of question the allegation that economic regulation is needed to 
assure safety of operations. As mentioned in the testimony, we per- 
formed such a test on data and found that while the results were 
statistically insignificant, meaning that regulation had no effect on 
safety, the nature of the result actualy give an appearance of a positive 
relationship between air fatality rates and the airlines' rate of return 
on investment. 

I agree that in formulating any kind of regulatory reform measure 
one should be very cognizant of the safety issue, but I do not believe 
economic regulation is the appropriate means of assuring air safety. 



^ 57 

SMALL-TOWN SERVICE (CROSS-SUBSIDY) 

Second, with respect to question of small communities' losing air 
service because of regulatory reform, this first presumes that there is 
a lot of cross-subsidy going on. The work I accomplished with my 
coauthor, George Douglas, indicates that the amount of cross-subsidy 
is grossly overstated. Professor George Iliads who is scheduled to 
testify later, will probably have some additional remarks on this issue. 
We have also observed that commuter airlines have replaced trunk and 
local service carriers quite successfully. We have no reason to believe 
that with less regulation their effectiveness would be diminished. 

RELATIONSHIP BETWEEN FARE AND ROUTE ENTRY FLEXIBILITY 

The question of pricing flexibility hinges very much on the question 
of entry. On the low side, as long as entry is relatively free, the carrier 
which is trying to predatorily jDrice one of its competitors out of the 
market stands nothing to gain, because as soon as it runs the last one 
out, it has to confront the possibility of a new entry. On the high side, 
it is again important that entry be relatively free. A carrier wishing 
to charge excessively high fares would be restrained from doing so be- 
cause of the threat of entry. 

On fly-by-night operators, even if you had less economic regulation, 
you would still have the constraints of safety regulation. This would 
mean that such operators would have to meet safety standards. They 
might by fly-by-night in the sense of going in the market and leaving 
the market in a very short period of time, but I do not see what real 
damage that would do to the consumer. 

Senator Kennedy. I suppose the damage to the consumer is unre- 
liability. Here is one carrier in the market one day making his reser- 
vations and plans, and the carrier is out of the market the next. 

Mr. Miller. Senator, I do not think we should underestimate the 
value of a reputation in something like tliis. The carrier which is new 
to the market will be viewed skeptically. It is through trustworthy 
service that a carrier generates new traffic. 

NEED FOR LEGISLATION 

I would like to make a final remark about the issue of CAB discre- 
tion. I think it is true that the CAB could promulgate many of the 
reforms that we have talked about this morning through the existing 
statute. However, I do not think it will do so, and I think the evidence 
of regulation in the past is a very forceful argument to make us 
skeptical about their being willing to move forward with this kind of 
reform in the future. 

Senator Kennedy. AVhy is that? 

Mr. Miller. I think incentives the regulator faces are not generally 
consistent with economic efficiency. I think the statute itself — for 
example, the declaration of policy, section 102 — is drawn in such a way 
as to give emphasis to a lot of different conflicting objectives. A regula- 
tor who does not want to be concerned with efficiency can find an eas}'^ 
excuse for not doing so. 



58 

Also, as a matter of procedure, even if you had a compromising 
Civil Aeronautics Board, five economists whose sole objective was 
to maximize economic efficiency, to the extent they would be changing 
precedent and moving in very new directions, I would imagine there 
would be a significant protest of such activity. I am not an expert on 
law, but I am not confident this kind of activity would survive court 
tests. 

Senator Kennedy. Let me just ask you from the point of view of 
the Council whether you feel from that vantage point that the idea of 
greater competition in terms of rates and entry would be beneficial 
from an overall economic point of view for our economy or from the 
consumer point of view. 

Mr. Miller. I think it is the major objective of the Council to rec- 
ommend policies or present analyses which focus on economic efficiency 
questions as they pertain to regulation and other types of governmental 
controls. This, of course, counts the consumer to a very large measure. 
After all. Senator, the ultimate objective of production is consumption. 

Senator Kennedy. Could you develop your thoughts briefly on the 
question of cross-subsidization. Then secondly, it is really an unrelated 
question, with this proliferation of new airlines and different prices, 
how will the consumer know w^here to go to get a ticket, will we have 
mass confusion or do you think this is a manageable problem Would 
you talk on those two questions ? 

CHAOS 

Mr. Miller, I will be glad to. Let me take the latter first. Informa- 
tion is a scarce resource, and when consumers know a producer charges 
a specific rate, and these rates are not likely to be changed, the pro- 
ducer's reputation is enhanced. Consumers find out this information; 
producers advertise as well. In a freely competitive airline market, 
consumers would learn the prices that are charged and the carriers that 
provide good service — the same way as in existing competitive, un- 
regulated markets. 

CROSS-SUBSIDY (SMALL TOWN SERVICE) 

NoAv, on the question of cross-subsidy, we essentially model the air- 
lines in the following way : Because there is a lot of competition today^ — 
most markets are served by two or more carriers — the Board is really 
in the business of setting the quality of service. They set the price and 
carriers compete on the frequency of schedules and other means so 
as to bring the cost level up to the price level. For example, transcon- 
tinental markets were referred to a few minutes ago where the prices 
are such that carriere can break even at 40 to 45 percent load factors. 
Carriers do, in fact, schedule up to the point where they are breaking 
even at those load factors. If the Board lowered the price, then the 
carriers' break even point would be higher. They would restrict sched- 
uling. This would drive up load factors. So in these markets the 
carriers are earning neither excess profit nor losses. 

On short-haul markets where the fare taper is such that the price — 
vis-a-vis the cost of a constant load factor service — is too low, the car- 
riers simply cut back on scheduling and provide fairly poor service. 



Again, in these markets the carriers tend to earn neither excess profits 
nor losses. 

So our general conclusion, based on this and additional information, 
is that there is not much cross-subsidy actually taking place. 

Senator Kennedy. Very fine. Thank you very much. 

[The prepared statement submitted by Mr. Miller for himself and 
Mr. Seevers follows :] 

Prepared Statement of Gary L. Seevers, Member, Council of Economic 
Advisers and James C. Milleik, Senior Staff Economist 

Economic Effects of Regulation of the Domestic Air Carriers by the CAB 

Mr. Chairman, members of the Committee : We are pleased to appear before you 
today to discuss the economic effects of regulation of the domestic air carriers by 
the U.S. Civil Aeronautics Board. 

For a number of years the Council has questioned the efficacy of airline regula- 
tion and suggested certain reforms. As a matter of fact, our most recent eco- 
nomic report,* published just two days ago, contains a section which discusses 
airline regulation and which implies that certain reforms are needed. A copy of 
that section of the report is attached as an appendix to this testimony. 

In the remainder of this testimony we outline what we consider to be the 
major costs of CAB regulation, we examine the economic performance of a 
hypothetical deregulated air carrier market, and we indicate the kinds of 
regulatory reforms the Administration now has under review. 

The Costs of Airline Regulation 

As they pertain to the airlines, economic conditions today are very much 
different from what they were in 1938, when airline regulation was established. 
At that time, the U.S. Government was attempting to promote an "infant" in- 
dustry through an inefficient system of airmail subsidy. Basically, the Govern- 
ment granted contracts to air carriers and prevented competition on those 
routes where contracts were granted. Recognizing the potential for excess profits 
on passenger services then or in the future, carriers would "buy-in" on these 
contracts for extremely low rates.^ This perfectly rational economic behavior on 
the part of the air carrier firms was then cited as evidence of "destructive 
competition" in the airline industry and thus a need for governmental interven- 
tion to "rationalize" competition." It was also said that governmental controls 
were needed to assure safety of operations. 

Today, the domestic airline industry is no longer an infant industry in need 
of promotion ; having increased in size since 1938 some 250-fold, by most stand- 
ards it is now truly "mature". Mail contracts are no longer the vehicle for sub- 
sidy, and as a percent of total domestic revenue subsidy has declined from 
31.6 percent in 1939 to less than 1 percent today. Except for minor payments to 
Northeast Airlines in the mid-1960's, the trunk carriers have been completely 
off subsidy since 1959." Air safety, which until 1958 was a primary CAB con- 
cern, is now vested with the Federal Aviation Administration of the Department 
of Transportation (DOT)." 

Another important change in the nature of the industry and its regulation is 
that the principal city-pair markets today are served by two or more airlines.^ 



* Economic Report of the President, Washington, GPO, February 4, 1975. 

' See Richard E. Caves, Air Transport and Its Regulators : An Industry Study. Cam- 
brldpe. Harvard I'niversity I'ress, 1962, p. 124. 

- Note that the lesi.slative "Declaration of Policy" admonishes the Board to create 
"Competition [only?] to the extent necessary to assure the sound development of an air- 
transportation system . . ." [OrlRlnal (1938) language now contained as section ia2(d) 
of the Federal Aviation Act of 1958, as amended.] 

'' For a discussion of the existing subsidy mechanism and its deficiencies, see George C. 
Ends, The Local Service Airlines Experiment, Washington, The Brookings Institution, 
1972. 

* Responsibility for investigating air accidents was transferred from the CAB to the 
National Transportation Safetv Board in igoO. 

■5 Note that from 1955 to 1971 the percentage of total revenue pa.ssenger miles attributed 
to markets where 2 or more carriers eacli accounted for at least 10 percent of the market 
rose from 55.6 percent to 76.6 percent. Sec, George W. Douglas and James C. Miller III, 
Economic Regulation of Domrxtic Air Transiiort: Theory and Policy, Washington, The 
Brooklnga Institution, 1974, p. 114. 



60 

Thus, in addition to no longer regulating so as to promote an infant industry 
and no longer regulating air safety, the Board finds itself no longer preoccupied 
with regulating monopoly. Instead, its primary activity is regulating comi)etition. 
But under CAB regulation this competition is of a rather special sort : It is mani- 
fest almost totally in dimensions other than price. 

A potential price-cutter in a CAB-regulated market faces significant costs in 
carrying out such an initiative. First, the carrier must announce the new rate at 
least 30 days in advance, thereby alerting its competition to the intended action.' 
Second, there is the simple cost of publishing the new tariff with the Board, as 
legally required. Third, any fare decrease is likely to be protested by competitors 
as being unreasonably low, discriminatory, preferential, prejudicial, or simply 
an instance of "unfair competition." Thus, the price-cutter nearly always must 
make an affirmative case before the Board that the new rate is justified, and 
this, of course, costs money. 

The new rate may be rejected outright or set down for investigation. If it is 
rejected, then of course any advertising by the carrier about the prospective 
lower rates is lost, and perhaps on balance creates ill will because the carrier 
is unable to deliver. If the rate is suspended, the carrier may either withdraw 
the initiative or pursue it further. If the rate reduction is pursued, then signifi- 
cant procedural costs must be absorbed by the initiating carrier as the rate 
travels through various steps : prehearing conference, hearing, briefs to the 
Administrative Law Judge, possibly briefs to the full Board, oral argument, and 
possibly, in the end, even court challenges. 

Because of these impediments, one observes little price competition in the air- 
lines. When rates are lowered they are usually done so in the interest of the 
whole industry, as for example, introducing discount fares to enlarge total rev- 
enues and to make the airlines more effective in competing with other modes of 
common-carrier transportation, such as intercity buses. Another ramification 
of this constraint system is that from the standpoint of an individual airline 
it makes little sense to change the rate in just one market. In an attempt to 
"spread the cost," airlines which propose rate reductions usually do so on fairly 
large chunks of traffic, although such a strategy inevitably reduces the likeli- 
hood of ultimate approval by the Board and of course raises litigation costs. 

The Board's statutory authority to control price and its procedures for imple- 
menting that control thus have rendered price competition in the airlines all but 
non-existent. On the other hand, there are other means that carriers have for 
attracting and competing for passengers over which the Board exercises little 
or no direct control. Such non-price competition takes various forms, including 
costlier meals, "free" drinks, expensive advertising, flashy interior and exterior 
color schemes, "VIP" airport lounges, on-board lounges, pianos, bars, and the 
like. But much more important, in terms of its ultimate cost to the consumer, 
is the scheduling form of non-price competition. As will be discussed below, 
scheduling additional flights is the most effective means that individual carriers 
have of attracting additional pas.sengers. Notably, except for its power to grant 
antitrust immunity and to orchestrate capacity agreements among carriers, the 
Board is prohibited from controlling schedule competition. '^ 

For any price that is approved or, in essence, "set" by the Board, the market 
has a "break-even" load factor, which we define so as to include a normal return 
on investment.* If actual load factors are below the break-even level, the carriers 
will be earning less than a normal profit, or even accounting los.ses and will cut 
back on capacity. Since market demand is inelastic with respect to capacity,* 
load factors will rise, and the process of capacity curtailment will continue 
until actual load factors have risen to the break-even level, at which point the 
incentive to reduce capacity unilaterally will disappear." On the other hand, if 
actual load factors exceed the break-even level, individual airlines have profit 
incentives to increase capacity. Actual load factors will fall and the process will 



s Thus, there is no such thing as a conventional "sale" in the airline business. 

''Section 401(e)(4) of the Federal Aviation Act states that, "No term, condition, or 
limitation of a certificate shall restrict the right of an air carrier to add or change 
schedules ..." 

8 "Load factor" is the proportion of seats filled, usually expressed as a percentage. 

8 That is, the percentage change in total traffic in the market is less than the percentage 
change in the marl^et's total capacity. 

1° Short of the break-even load factor an individual carrier can safety assume that It 
reduces capacity its competitors will also. However, once equilibrium has been renched, 
a carrier reducing capacity unilaterally may not assume that its competitors will do 
likewise. 



61 



continue until capacity increases have reduced actual load factors to break-even, 
at which point there is no more incentive to add to capacity .^^ 

An extremely important aspect of this non-price competition is that there 
is a whole range of prices which the Board may choose and still enable com- 
petitive returns to the individual carriers, or at least to the carriers as a group. 
If the Board chooses a "high" price, the break-even load factor will be "low" 
and, in equilibrium, so will be the actual load factor. If the Board chooses a 
"low" price, the break-even load factor will be "high" and, in equilibrium, so 
will the actual load factor. The nature of this trade-off between fare and average 
load factor is displayed in figure 1." 




ATenge Load Tiaetor (Psreent) 



(l)reak-«vea) 



100 



Figure 1 
(For iUustratlon purposes ooly; not drava to sealv. ) 



" When market load factors are above break-even, an individual carrier can make 
more profit by expanding its own capacity provided other carriers do not also expand their 
capacity. The evidence suggests that cnrriers act as though they make such an assumption. 
A variant explanation of observed behavior is that since an individual carrier may not 
assume that its competitors will not increase their capacity it must increase its capacity 
just to maintain its market share. In any event, when the break-even load factor is reached, 
there is no incentive to increase capacity, since the market load factor will fall below 
break-even and each carrier may assume that its competitors will follow a policy of 
restraint. 

For a more thorough description of this nonprlce-competing behavior and evidence on 
same, see Douglas and Miller, ibid., chapter 4 and the papers cited therein by De Vany, 
Douglas, Miller, Straszheim, Yance, Barnekov, Eads, Milward, and White. For an em- 
pirical analysis of the relationship between market shares and capacity shares, see James C. 
Miller III, "Airline Market Shares vs. Capacity Shares and the Possibility of Loss 
Kquilibria" (processed, 1974) and CAB Docket 22908 (Capacity Reduction Agreements 
Casel DOT-T-1 through ,5 (1974). 

^- Notably, the Board would appear to have accepted this model of regulated-carrier 
behnvior. In a decision in its recent domestic passenger fare investigation (CAB Docket 
21866), the Board said : 

"We find . . . that the higlier the fare level in relation to cost, the more capacity carriers 
will offer and the lower load factors will be : and, conversely, the lower the fare level, the 
less capacity carriers will operate and the higher load factors will be." [CAB Order 71- 
4-54 (April 9, 19710, p. 23.] 



62 

Over a fairly wide range of prices, carriers, in equilibrium, will earn normal 
profits — and thus, arguably, the choice of price is not material to them. How- 
ever, the passenger's cost of service is greatly dependent upon the price and load 
factor option chosen by the Board. In esssence, the passenger's "full cost" 
of travel is the ticket price plus the "cost" of delays he, or she, incurs in waiting 
for a flight. We see in figure 1 the rather obvious proposition that as the average 
load factor rises the associated break-even fare falls. If this were the only 
element in the passenger's cost of service, public policy would dictate a fare 
consistent with load factors of near 100 percent. However, as load factor falls 
delay cost increases. Passengers find it more diificult to secure accommodations 
on the desired departure and flights are fewer, with more time in between 
departures. When translated into money terms this delay cost is as characterized 
in figure 1. The passenger's full cost of service is thus the sum of these two 
types of cost, i.e., ticket price plus delay, and, given these two curves, for some 
average load factor level the "full cost" is at a minimum, i.e., ALF. 

A recent Brookings publication by Professors Douglas and Miller came to the 
conclusion that the Board has chosen too low a load factor standard, i.e., 55 per- 
cent as opposed to 60-65 percent, and consequently is promulgating fares which 
are too high." This means that the typical passenger is paying an "excess fare" 
which exceeds the value of the reduction in delay. This in turn means a higher 
full cost of service with no offsetting higher profits to carrier. Thus, there is regu- 
lation-induced excess capacity which represents a deadweight loss to society." 
Douglas and Miller estimate that during 1969 air passengers paid excess fares to 
domestic trunk carriers ranging between $366 million and $538 million, for 
which they received quality improvements valued at between $118 million and 
$182 million. This leaves a deadweight welfare loss in trunkline service for 1969 
of between $248 million and $356 million.'^ 

Since 1969 the Board has established target load factors of 55 percent as 
opposed to the then-prevailing levels of approximately 50 percent. However, the 
recent increases in fuel prices have raised the optimal average load factor to 
approximately 65-70 percent, so the present configuration of service is still 
characterized by efficiency costs on the same order of magnitude. Based on total 
domestic trunk revenues of $9,316 million for the year ending September 1973, 
this implies a current annual welfare cost for trunk service ranging between 
$355 million and $509 million. 

There are additional costs of airline regulation. First, there is evidence that 
the relationship between the Board and the industry has resulted in a level, and 
structure, of fares which maximizes total capacity rather than one which maxi- 
mizes total passenger traffic." This is illustrated in figure 2." Since some costs are 
"external" to the airlines and their passengers, this behavior has quite likely 
resulted in excessive investments in airport and airway facilities as well as 
excessive consumption of fuel. 

Second, the Board's policy of protecting existing carriers from competition by 
preventing the entry of new carriers ^* not only means that the public has been de- 
nied lower price-quality options, but that potentially more efficient carriers have 
not been able to test the efficiency of existing carriers. Whether new carriers 
would have significantly lower costs is subject to considerable debate, but evi- 
dence on relative carrier costs and the evidence from unregulated markets cer- 
tainly raises this possibility.^* There are two significant problems with this ap- 
proach, however. First, a regulator is inherently less capable of administering 
resources "correctly" than is an individual competitive entrepreneur. The regu- 



" In the DPFI the Board announced its intention of in effect setting fares at levels 
which would cover costs (plus a reasonable return on investment) on the basis of an 
industry-wide average load factor of 55 percent. 

i*The analysis only briefly summarized here can be found in Douglas and Miller, ibid., 
chapter 6. 

'5 Miller and Douglas, ibid., p. 172. 

i« See Arthur S. De Vanv, "Effects of Price and Entry Regulation on Airline Output, 
Capacity and Efficiency," Bell Journal of Economics and Management Science, (forth- 
coming Spring 1975; and Douglas and .Miller, ibid., pp. 60 and 176-77. 

"Rather than choosing fare level F*, the Board has chosen fare level F**. Figure 2 is 
adapted from De Vany, ibid. 

18 Since regulation w.ns established in 1938. not a single new trunk carrier has entered 
the market, and not a single trunk has exited the market except through merger. 

19 See Robert J. Gordon, ".\irline Costs and Managerial Efficiency" in Transportation 
Economics : .\ Conference, Columbia Universitv Press for the National Bureau of Economic 
Research, 1965, pp. 61-94 ; Theodore E. Keeler, "Airline Regulation and Market I'erform- 
ance," Bell Journal of Economics and Management Science, Autumn 1972, pp. ,'?99-424 ; 
William A. Jordan, Airline Regulation in America : Effects and Imperfections, Bnltimore, 
The Johns Hopkins Press, 1970, chapter 11 ; and Douglas and Miller, ibid., pp. 141-9. 



63 




Aure Linrel 



Figure 2 
(Tar illttstratioD porpoaet ooJor; aot drawn to scale. ) 

lator neither has information as good as that of the entrepreneur nor does he, 
or she, have the appropriate incentives. Second, in terms of fact versus theory, 
the performance of the existing regulatory agencies causes one to be extremely 
skeptical of achieving good industry performance by relying upon regulation. 



ECONOMIC EFFICIENCY OF DEREGULATED MARKETS 

Costs of regulation such as those described above implicitly assume some 
alternative, usually and ideally, efficient markets. In real life, critics of regula- 
tion must be careful to identify realistic alternatives. Two such alternatives im- 
mediately come to mind: (a) "enlightened" regulation, and (b) total deregula- 
tion. On the one hand, it is entirely possible that a truly enlightened regulator 
could eliminate most of the costs described above. For example, in an ideal set- 
ting the CAB could adopt target load factors by market characteristic and ac- 
cordingly, by regulating fares, eliminate the costs of "excess capacity." 

At the other extreme is the hypothetical, completely deregulated, competitive 
market.^ The theoretical argument for the eflBciency of deregulated airline mar- 
kets is extremely powerful. The airline industry appears to conform closely to 
the necessary conditions for price competition : no significant scale economies,^ 
fairly elastic or firm demand, relative difficulty of coordinating pricing and output 
policies i.e., collusion, and, in the absence of controls, relative ease of entry and 
exit. 



=0 For this di-scussion, by the term "deregulation" and its derivatives we mean the elimi- 
nation of economic regulation only, not the elimination of s-^fety regulation. 

^ On the question of scale economies see Douglas and Miller, ibid., pp. 13-18 and the 
sources cited therein. 



64 

Finally, there are numerous regulator-imposed constraints on routings and 
service requirements which serve to raise costs."' To our knowledge a precise esti- 
mate of all these costs has not been made. In our judgment this figure would be 
in the neighborhood of $1 billion per year, or around 10 percent of total domestic 
trunkline revenues.-^ 

Looking at the question of optimal price and load factor, with fare flexibility, 
a carrier would have an alternative means of attracting additional passengers : 
lowering price. The carrier could then judge the most effective way of attracting 
business : lowering price or providing more service. The result would be the ap- 
propriate market combination of price and quality. Moreover, in some markets 
there may well be a distribution of price and quality combinations that is de- 
sired by the public.-* Free markets provide incentives for this configuration to 
come about. 

Under conditions of free entry and free exit, firms would have to stand a more 
substantive "market test" of their efliciency. More efficient firms would survive, 
and inefficient firms would be forced to exit. The removal of restrictions on rout- 
ings w^ould result in lower costs to consumers, and uneconomical markets would 
be abandoned. There might well be some "market imperfections," -° but in eco- 
nomic efficiency terms these would probably be fairly minor. 

Of course, we would like to rely upon facts concerning deregulated markets as 
well as upon theory. Unfortunately, we do not have ideal tests of deregulation 
since the CAB has preempted truly comparable experiments. However, we do 
have two deregulated markets that are similar in many respects to CAB-regulated 
markets, except, of course, for differences in the degree of regulation. 

First, we have the intrastate markets, which are outside CAB jurisdiction. 
Prior to 1965, the California Public Utilities Commission regulated maximum 
prices in intrastate air service, but not entry and exit."" Professor William A. 
Jordan has made an extensive study of the history and economic character of 
this market and has concluded that in virtually all respects the California intra- 
state airline market is much more efficient than comparable interstate CAB- 
regulated markets." Even today, with tighter regulation, fares in California intra- 
state markets average much less than fares in comparable interstate markets. 

A similar result was obtained in the Texas intrastate market, where Southwest 
Airlines, a carrier licensed by the Texas Aeronautics Commission, is in compe- 
tition with BranifE Airways, a CAB-regulated trunk carrier, and Texas Inter- 
national Airways, a CAB-regulated local service carrier. Despite having its 
service introduction postponed nearly four years because of judicial challenges by 
Braniff and Texas International, the carrier is now serving the "golden triangle" 
(Dallas, Austin, and Houston) at a profit, charging fares which average some 
20 to 50 percent less than comparable CAB-regulated fares. 

The other major unregulated market is that of commuter airlines, previously 
known as air taxis. In 1952, faced with doing something about a plethora of 
illegal interstate air taxi operations, the Board simply exempted from regulation ^ 
any interstate air carrier which utilized aircraft having no more than 12,500 
pounds gross take-off weight.^ At that time it was thought that no operator could 
provide profitable scheduled operations with such small aircraft. Subsequently, 
however, technology changed, and equipment of this w^eight is now capable of 
carrying up to 19 passengers at reasonable comfort and speed and at relatively 
low cost. Today there are literally hundreds of such operators which provide 
regularly-scheduled service to low-density markets — and in some higher-density 



22 Some of these have been instituted to assure service to points that the Incumbent 
carrier might not ordinarily serve. To some extent, then, such costs are revealing of the 
resource costs of pursuing certain social "non-economic" objectives. 

23 Note that these losses are not simply transfers from consumers to producers or from 
consumers to consumers. They represent the economic cost of squandered resources. 

2* For example, a low load factor, low-density, high-amenity, high-priced service cater- 
ing to business travelers, and a low-cost, no-frills service catering to the vacation traveler. 
At present such specialization is limited — another cost of regulation. 

25 These include: (a) collusion over prices and/or service, (b) quasi-monopoly service in 
marginal niarlvcts. and (c) inefficient mixes of aircraft and frequencies. On the latter 
point, see George W. Douglas, "Equilibrium in a Deregulated Air Transport Market," paper 
delivered at a seminar on Problems of Regulation and Public Utilities, Dartmouth College, 
1972. processed. 

2« Since then control over entry and exit has been instituted. 

2' .Jordan, ibid. Also see Bureau of Accounts and Statistics. "Traffic, Fares, and Competi- 
tion : Los Angeles-San Francisco Air Travel Corridor", Washington, U.S. Civil Aero- 
nautics Board, 1965. 

28 Under section 416(b) of the Federal Aviation Act. 

29 That standard was recently changed to a 30-passenger capacity and a net payload of 
no more than 7,500 pounds. 



65 

markets, often in direct competition with trunk and local service carriers Since 
with tew exceptions these carriers receive no government subsidy, and since they 
are handieappeu in terms of tiie size of the aircraft they may operate they tend 
to serve marginal, or uncertain routes; thus, their turnover is judged by some as 
being fairly high. However, it is notable that such unregulated carriers serve 
many markets that CAB-reguiated carriers have chosen to abandon and that 
tneir service, given their equipment and the characteristics of their markets, is 
sate and reliable. 

By no means has the brief discussion touched on all the characteristics of 
deregulated markets. In the space remaining, however, we should like to respond 
to the more signiticant criticisms raised by those who oppose less regulation of 
the domestic air transport system : 

1. Without regulation, flights would be unsafe. Critics of deregulation argue 
that regulation is needed to insulate carriers from market forces; otherwise the 
"dog-eat-dog ' atmosphere of free comi^etition would lead carriers to skimp on 
safety, to the public's detriment. There are several answers to this; First, the 
governmental instrumentality charged with air safety is the FAA, not the CAB. 
Deregulation, as we have defined it, would leave the FAA's role unaffected. 
Second, there is little direct evidence that economic regulation has had any 
effect on air safety. For example, the Board has never withdrawn or suspended 
the certificate of a trunk operator on grounds that its operations were unsafe, 
and its constraints on entry have seldom if ever revolved around issues of safety. 
One variant of the safety hypothesis is that high profits mean safe operations. 
However, when we tested this naive proposition over the period 1939 to 1953, 
for which there appeared to be adequate variations in profit rates and fatality 
rates to make a test feasible, we found the result contrary to what critics of 
deregulation would have predicted. While the net effect was small and statisically 
not meaningful, the result actually showed a positive relationship between in- 
dustry profit rates and industry fatality rates.^ 

2. Under deregulation there would be wholesale abandonment of markets, leav- 
ing only the "top-25" (or top-50 or top-100) markets with adequate service. This 
prediction is based, in essence, upon the assumption that CAB regulation pres- 
ently constraints the abandonment of hundred of markets. In particular, it is 
argued that the present pricing structure enables a considerable amount of cross- 
subsidy whereby a carrier uses the excess profits from some markets to offset 
losses in others that presumably would not receive service under deregulated 
conditions. Miller and Douglas have found that the extent of this cross-subsidy 
is greatly overstated,^ and apparently the Board agrees.^^ If this is true then 
presumably most alleged "losing" markets are in fact self-supporting and would 
not be abandoned if regulation were terminated. Second, even if one carrier aban- 
dons a market, this is not to say that some other carrier could not serve it at a 
profit.^ Third, there may be points which would be abandoned if carriers were 
restrained to the CAB-regulated fare, but free to charge a higher fare if need be, 
carriers could serve many such markets at a profit. There are numerous cases 
where trunks or local service carriers have abandoned markets that were later 
served by commuter carriers at a profit, often a slightly higher price and a more 
frequent service configuration. 

3. Under deregulation, only a handful of carriers would survive. This could 
happen, but if it did such industry concentration would not be a problem. Since 
there are no pervasive .scale economies, there is little reason to anticipate this 
outcome any more than one might anticipate the emergence of several hundred 
operators. However, even if only a handful of carriers did survive, the ease of 
entry into deregulated markets would act to "police" the market and thus pre- 
vent any abuses of monopoly power. 

4. Under deregulation, prices and schedules would be unstable. Without doubt 
deregulation fares would be less stable than at present. After all, regulation has 
virtually precluded price competition. However, rates would not fluctuate broadly. 
The reason is that information is a scarce resource and carriers can reduce this 
expense and thus attract passengers by keeping such rates relatively stable. The 



^'The result was as follows: Domestic fatality rate (pa.ssenper fatalities per 100 
million miles flown) =1.76+ (.009X<lomestic industry profit rate). (T-statistic on variable 
coeffloient = .2.5 : equation R==.OS.) Data sources: T^.S. Tivil Aeronautics Board. Handhook 
of Airline f^tafirticfi: 1971 Edition. Washington. GPO, 1972. p. 554 ; and Caves, ibid., p. S9^. 

31 Miller and Dousrlas. ibid., chapter fi. „ ,, 

32 See C\B Order 74-3-S2. March 18. 1974. pp. 66-72. Moreover, the Board has recently 
enunciated a nolicv of eliminating anv cross-subsidy. (Ibid., p. 68.) 

33 Perhaps the replacement carrier is more efficient, or the point is more complementary 
to Its route system. 



51-146 O - 76 



same is true of schedules. An unregulated carrier stands to gain considerable ill 
will by not keeping schedules, or, put another way, an unregulated carrier may 
gain a good reputation by maintaining published schedules. Certainly the ex- 
perience of the intrastate airlines and the commuter airlines is inconsistent 
with the prediction of unstable rates and schedules under deregulated condi- 
tions.^ 

APPROACHES TO REGULATORY REFORM 

From the prior discussion, it should be apparent that the economic perform- 
ance of the domestic airline industry would be significantly enhanced if economic 
regulation were liberalized or perhaps eliminated. ISince one cannot predict with 
absolute certainty what would happen with complete deregulation, it may not be 
feasible to make a total commitment to such a course of action at this time. For- 
tunately, there is an approach which appears feasible, which leaves open the 
question of ultimate total deregulation, and which we would highly recommend. 
That is, we should move smartly in the direction of more liberal regulation ; at the 
same time we will gain additional information about the efficiency of total de- 
regulation and can make incremental decisions as needed. Such a regulatory re- 
form proposal would be consonant with the following principles : 

1. Entry. It should be easier for existing carriers to enter new markets and for 
new carriers to enter the business. At a minimum, the Board should consider the 
effects on economic efficiency of prospective new service when deciding entry 
cases. Also, it would be desirable to prohibit the Board from constraining entry 
on the grounds that it might adversely affect other carriers. 

2. Exit. Cairriers should be allowed to abandon markets where they cannot 
cover costs. Otherwise, implicit taxes on other travellers have to support such 
services and this is not only questionable as a matter of equity, but it tends to 
hide the real cost of serving these markets. 

3. Rates. Fares should be flexible so as to allow price competition. One ap- 
proach would be to institute a "zone of reasonableness," such as plus or minus 
15 percent of existing fares, within which fares would be totally exempt from 
regulation.^ Retaining control over maximum and minimum fares thus guards 
against the possibility of monopolistic exploitation on the high side and alleged 
"cut-throat" competition on the low side. Over time the zone could be widened 
to allow for even more price competition, lower fares, and further differentiation 
in price-quality offerings. 

4. Antitrust immunity. In order to assure that the basic thrust toward less 
regulation were not perverted, it would be necessary to limit the Board's power 
to grant antitrust immunity. Such a change would affect such things as agree- 
ments over fares, pooling of revenues, agreements to control capacity, et cetera. 
Not affected would be innocuous relationships such as baggage interchange, joint 
reservation facilities, and the like. 

5. Subsidy. During an interim period, it might well be desirable to retain the 
Board's subsidy program. However, we would suggest that the whole subsidy 
mechanism be reexamined in order to determine ways of obtaining more results 
from each subsidy dollar, or, alternatively, of reducing the subsidy bill for any 
given results. 

Legislative proposals for regulatory reform reflecting these principles are now 
being considered by the Administration. It is anticipated that the Administration 
will recommend to this session of Congress a comprehensive program which, if 
enacted, would significantly increase the efficiency of our air transportation sys- 
tem and provide consumers with improved transportation services at lower costs. 



^ See. for example, Jordan, ibid., chapters 5-10. 

35 It is important that this zone be wide enough to allow for meaningful price com- 
petition. Also, too narrow a zone would facilitate price collusion. Fifteen percent, plus 
and minus, would appear to be a minimal standard. 



AIR TRAVEL 
(From Economic Report of the President, 1975, G.P.O., pp. 154-5) 

In the domestic airline industry, regulation has reserved primarily to bring 
about a nonoptimal choice of price and quality. Because the CAB had a 
fairly liberal policy during the 1950's and 1960's toward the entry of existing 
carriers into city -pair markets, the principal markets are now served by two 
or more airlines. However, since their fares are regulated by the CAB, the 
airlines tend to complete on the basis of scheduling, over which the Board 
does not exercise direct control. The result is "excess capacity," and efforts 
to raise the regulated fares in order to assure a return on investment greater 
than the industry's perceived cost of capital serve only to set the stage for 
further capacity augmentation. 

Carriers as a group have consequently tended to earn neither excess profits 
nor losses, but the traveling public has paid higher fares because of the 
regulation-induced excess capacity. While excess capacity does yield some 
benefit in the form of more frequent departures, less crowding, and a better 
chance of obtaining a seat on the preferred departure, the value of this excess 
capacity is almost surely less than its cost. As evidence, in the relatively un- 
regulated California and Texas intrastate markets the competitively deter- 
mined higher-load factor service has historically been sold at prices some 40 
percent below the prices of comparable interstate, CAB-regulated services. More- 
over, a recent study reports that in 1969 domestic air passengers paid "excess 
fares" ranging between $366 million and $538 million, for which they received 
service quality improvements valued at between $118 and $182 million. The 
difference, between $248 million and $356 million, represents a deadweight loss 
to society. 

In its recent domestic passenger fare investigation, the CAB established 
target load factors of 55 percent. Since the prevailing load factors were 
around 50 percent, this policy had the effect of reducing excess capacity and 
lowering fares. However, it would appear that a much higher load factor 
standard is justified especially in view of the recent increa.ses in fuel prices. 
The Board's new policy of encouraging agreements among carriers to limit 
capacity is not an appropriate way of dealing with this problem. In markets 
covered by agreements, the passenger's total cost of service is increased because 
of increased delays, but the fare is not reduced. 

Airline regulation imposes other costs, which are not generally well per- 
ceived. For instance, through the regulatory process, fares have tended to be 
set at levels and with a structure that maximizes total seat capacity, as opposed 
to maximizing total passenger traffic, the result being added congestion and 
environmental costs, as well as increased costs of airports and airways. By re- 
stricting the entry of new firms into trunk carrier service in order to protect 
less eflScient incumbent firms, regulation has also penalized potentially more 
eflScient firms and has resulted in higher fares for a given quality of service. 

These costs of airline regulation could be reduced substantially or even 
eliminated if entry into and exit from markets were made easier and if 
control over fares were liberalized so as to encourage price competition. Under 
such circumstances an individual airline could attract more passengers by 
lowering its price rather than increasing its total capacity. 

(67) 



68 

Senator Kennedy. Mr. Peck is our next witness, a former member 
of the Council of Economic Advisers. 

Then Professor Noll, if you would be kind enough— Professor Noll 
received his Ph. D. in 1957, was on the senior staff, Council of Eco- 
nomic Advisers, through 1973, and senior fellow, and currently pro- 
fessor of economics at the California Institute of Technology. 

Thomas Moore, would you come up ? Mr. Moore is professor of eco- 
nomics, at Stanford University. 

Mr. Peck, do you want to start ? 

STATEMENTS OF MERTON J. PECK, PROFESSOR OF ECONOMICS, 
YALE UNIVERSITY; ROGER G. NOLL, PROFESSOR OF ECONOMICS, 
CALIFORNIA INSTITUTE OF TECHNOLOGY; AND THOMAS G. 
MOORE, SENIOR FELLOW, THE HOOVER INSTITUTION ON WAR, 
REVOLUTION, AND PEACE, STANFORD UNIVERSITY 

Mr. Peck. Yes, thank you. Senator. 

I have a short statement I would like entered into the record, but I 
will not read it. The reason is that the testimony of the previous wit- 
nesses from the Department of Transportation, Council of Economic 
Advisers, the Federal Trade Commission and the Department of 
Justice have made many of my points. To read my statement now 
might seem to be preaching to the converted. Much of my statement 
would be cumulative. 

I would like to indicate, however, that the economic literature in 
recent years has made two points: First, regulation is economically 
inefficient ; it costs the consumer too much. Second, the solution to this 
inefficiency lies, in general, in more competition and less regulation 
to provide the consumer additional price and service options. 

Those two points were made well, I think, by the preceding wit- 
nesses. Looking at their footnotes, I discovered an amazing fact. Peo- 
ple do read economists' waitings, and those writings are reflected in 
the testimony of the previous witnesses. 

I would add three other points. First, we have all observed that 
airplanes fly half empty, and the numerous flights reduces waiting 
time but raises costs. A Yale student of mine, Michael Pustay, has 
calculated the value in reduced waiting time relative to the cost of 
more flights. He found that in 1969 the excess capacity flown, if waiting 
time is valued at $10 an hour, added about 10 percent to airline fares. 



In transcontinental markets, it added even more to the costs. His results 
suggest the following conclusion : In 1969, the American airlines were 
flying the right number of flights for the $60,000-a-year man, to whom 
convenience matters more than cost. Everyone also was offered too 
many flights and too high fares. 

Now I would like to turn to another point. I think congressional 
hearings are a highly desirable forum in which to raise the critical 
issue of regulatory reform. You mentioned earlier. Senator, the regu- 
latory proceedings themselves as a way to change policy. I have ap- 
peared as an expert witness in regulatory proceedings. I have been 
impressed with the care and diligence of regulatory officials as well 
as their concern with the public interest. But I find the issues are too 
narrowly drawn to make regulatory proceedings a good place in which 
to examine broad issues. 

I would add one final point made in my statement. I recall President 
Kennedy's transportation message of 1962, which was a forceful plea 
for deregulation. If one heard only the firet day of the hearings on 
that message, with witnesses all in favor of it, one would conclude de- 
regulation was going to come within a week or two. It turned out that 
the first day was not representative, and the legislation that accom- 
panied that message did not do well in Congress. 

It seemed to me then that President Kennedy's plea for deregula- 
tion was good economics. It may even be better economics today. 

Senator Kennedy. Professor Noll. 

Mr. Noll. Senator, we have engaged in a little bit of collusive be- 
havior of our own, and I think it would be more appropriate if Mr. 
Moore came before I did. 

Mr. MooRE. Thank you. Senator. I would like to summarize my 
statement. 

My research and other research all on the question of regulation 
is going to point to the same thing : regulation produces waste, higher 
prices, and often poor service. My research has been in the area of ICC 
regulation, regulation of trucking in Europe, regulation of electricity 
utility rates by State Commissioners, occupationally sensin^i-, and the 
regulation of stock market margin requirements. I might indicate my 
study of ICC regulations has indicated in 1968 ICC regulations in- 
flicted costs on the American economy in the order of $3.8 to $8.8 
billion. Today the figure would be considerably higher 

I would like to turn to my experience in v estern Europe, which I 
have just come back from, studying the regulations there. 



70 

I found that regulation has the same pattern there as it does here. 
In those countries like West Germany, they have very strict regula- 
tions, and prices are much higher, almost 40 percent higher, than in 
free market countries. 

England, for example, has deregulated trucking entirely, and it il- 
lustrated an appropriate one for this hearing because many of the 
same points that you were raising this morning and others raised about 
deregulation were raised about deregulating trucking. Professor Noll, 
who has argued that he would get predatory pricing cutthroat com- 
petition, monopolizing, services would disappear to small countries, 
safety would decline, but when they deregulated trucking, none of 
these things happened, prices did come down, but profits surprisingly 
enough were not appreciably affected. Service appeared to improve, 
their service to small communities, even in northern parts of Scotland, 
were maintained, and in fact improved under deregulation, and the 
safet}^ record also improved. That was due partly to some additional 
statutes dealing with safety and trucking. 

So that none of these things that are alleged to happen happened 
there. There is no reason to believe they would happen in the airline 
industry. 

The second point that I want to make is that regulation as a process 
is inherently faulty. There is nothing that you could do, no rewriting 
of the statute, no appointment of better commissioners is going to do 
more than make marginal improvements. The regulatory process as it 
is developed must in fact emphasize the economic liealth of the in- 
dustry. The regulators cannot tolerate major firms failing. Your hear- 
ings last fall indicated that the CAB was attempting to put a floor 
under charters. 

Too, as your own report said, to maintain or increase the profit- 
ability that Pan Am — let me see — had in order to help Pan Am with 
its financial problems. 

This is inherent in regulation. Regulation also by its very nature in 
a competitive industry often results in the regulated not even getting 
the benefits, because price competition which others have talked about 
this morning has been eroding. 

Roger Xoll is going to elalaorate a little more on this and the prob- 
lems with the regulatory policy. 

Mr. Noll. Thank you. I, too, as Professor Peck, have a written state- 
ment that I do not intend to bore you with in completeness. I have 
given a corrected version to professor Breyer which I hope you will 
put into tlie record. 

Senator Kennedy. Yes. It will be included in the record. 



71 

Mr. Noll. Since this is in fact a committee on administrative prac- 
tices, I would like to focus on the way the administrative practices 
operate and what kind of efficiency effects they have. 

I think, as judged from the testimony so far here today, economists 
and even lawyers and political scientists who have studied regula- 
tion have focused too much of their attention on performance of the 
industry and too little of their attention on the nature of the process 
itself. One is normally faced with a conclusion which says regulation 
of the industry is costing us x billion dollars, therefore, let's stop 
having fools, and incompetents, and politicians appointed and fix the 
whole thing up or they will say let's tinker with the administrative 
procedure so the procedure can be made better. 

CERTAIN COSTS ARE INTRINSIC TO REGULATION 

What I Avould like to give today is a view on why I think this is 
a mistaken view. I have known fine men on regulation commissions 
who came out after their term simply shaking their heads, not under- 
standing why they weren't able to accomplish all the things they 
were hoping to accomplish when they went in. 

The problem lies in the institution itself. There are a number of 
dilemmas in setting up an industry to control market behavior that 
are simply unresolvable. 

COSTS DUE TO REGULATORY DELAYS 

It first arises from incompatability of decisions, that make de- 
cisions with staff, that individuals are accorded due process, that 
decisions are based upon evidence, and that when someone raises 
an issue in a proceeding that is to be accounted for by the person 
making the decision. 

It is inconceivable the kinds of power to redistribute wealth that 
inheres in regulatory institutions would be delegated to any bureau- 
cracy without subjecting the decisions to judicial review and without 
giving affected individuals the right to plead their cases before 
decisionmakers. 

To safeguard the rights of individuals against capricious and ar- 
bitrary decisions of an agency requires establishing decisionmaking 
procedures that normally cause decisions on important issues to be 
protracted. This can create serious problems in three types of circum- 
stances, when rapid inflation pushed costs up and firms cannot respond 
to cost increases by raising prices until a protracted regulatory review 
has been completed; when a technological development that would 



72 

lower costs and improve service quality cannot be fully exploited with- 
out regulatory review; and when an innovative new firm seeks to 
enter a regulated market but must first win the approval of the regu- 
lators. The last two effects significantly reduce the incentive to the 
firm to be innovative, since to all the risks and costs of innovation 
are added the expense in time and resources of a regulatory proceed- 
ing, while the risk of a more innovative competitor capturing a 
superior market position is reduced. 

COSTS DUE TO NECESSARY BIAS TOWARD THE FEW COMPANIES MOST AFFECTED 

The second major dilemma of regulatory institutions reflects the 
trade-off between an expensive regulatory process and a process that 
is insulated from the individuals affected by its outcomes. In part be- 
cause the preservation of accountability and due process through ju- 
dicial review makes participation in the regulatory process expensive, 
and in part because the vast majority of persons who are affected by 
regulatory decisions are not effectively organized to represent them- 
selves in regulatory proceedings, the flow of information and proposed 
rules to the agency is one-sided. A passive agency that relies upon the 
evidence supplied by participants in the process will inevitably make 
decisions based upon incomplete assessments of the issues at hand ; an 
agency that can generate its own independent flow of information on 
every important case will be much more expensive to operate. In fact, 
none of the Federal regulatory authorities engaged in price and profit 
regulation devotes anywhere near the resources to generating informa- 
tion for use in regulatory proceedings that is committed by the indus- 
tries they regulate. 

An example of what basically happens is that a few well represented 
groups, by virtue of the procedure of the agency, get to structure what 
the issue will be in the proceeding and they get to provide most of the 
information upon which the decisions will be based. 

The outcome is best illustrated by the recent debate over the regula- 
tion of cable television. 

The recent debate over the regulation of cable television is an illus- 
trative case in point : The final regulatory rules were worked out by a 
coalition of broadcasters, cable system owners and program producers. 
While each of these groups cast their arguments defending their own 
positions in terms of the beneficial effects a system satisfying them 
would have on society at large, and while the FCC devoted some staff 
resources to investigating the stake of viewers in the issue, neverthe- 
less the final compromise was hammered out exclusively by the well- 
represented special interests, and was adopted by the FCC explicitly 
because none of the three groups would appeal the compromise, legally 
or politically. 



73 

Senator Kexnedy. Professor Breyer is goin^? to chair this part of 
the hearing. I hope vou will continue if that is all right. 

Mr. Noll. OK. 

These endemic problems of regulation do not necessarily lead to the 
conclusion that under no conditions should industry be regulated. All 
they imply is that certain inevitable costs are to be expected. Gener- 
ally, these costs will be higher because : (1) the sophistication required 
to determine the true technical and economic conditions of the industry 
is greater, (2) the greater the portion of the effects of regulation that 
is diffused over a large, heterogeneous group that is unlikely to be ef- 
fectively organized, and (3) the more uncertain and rapidly changing 
the economic environment in which the regulated firms operate, such 
as is the case during a period of rapid inflation or deepening recession. 

The cost of regulation is also likely to be greater the more competi- 
tive the regulated industry. This is because entrenched firms are to 
some extent protected from competition by the slowness and costs of 
procedures that must be followed by new entrants into a market. In 
addition, the regulatory forum allows competitive firms to engage in 
a far greater degree of collusive behavior than would be permitted in a 
normal competitive circumstance. And by exercising some control over 
the information flowing to the agencies, while constituting the pri- 
mary threat of appeal to the agency's decision, the industry can push 
the agency to make policies and adopt rules that enforce cartel-like 
behavior upon the firms in the industry. These types of actions — the 
mutual service reduction agreements among the airlines that were 
promoted by the CAB are good examples — would surely be antitrust 
violations in the absence of the protective umbrella of the regulatory 
statutes. 

The principal conclusion of the preceding remarks is rather straight- 
forward : one should keep in mind the costs of regulation when de- 
ciding whether to regulate any particular industry, and whether to 
continue to regulate an industry that was subjected to regulation when 
circumstances were far different from the present. For example, if an 
industry becomes increasingly able to support a competitive market 
structure as time progresses, the expected costs of regulation will in- 
crease while the expected benefits of regulation will decline. 

COSTS INCREASED WHERE REGULATOR — LIKE CAB — MUST PROMOTE 
INDUSTRY 

Presumably the argument for regulation of most industries is more 
complex than simply the avoidance of monopolistic practices. In the 
case of domestic airlines, regulation has a certain promotional feature, 
owing to the effects attributed to an extensive air route structure on 
economic development, the distribution of economic activity, and na- 



74 

tional defense. Without debating the merits of these contentions — 
which are, of course, eminently debatable — the issue remains which 
policy instrument can most effectively generate the desired route struc- 
ture. The difficulty with the regulatory approach is that this explicit 
promotional aim gives the regulatory authority an even greater indus- 
try orientation than the institutional dilemmas would normally pro- 
duce. On the industry's part, promotional, cost-plus regulatory policies 
generate overly optimistic investment plans since the incentive for 
investment is heightened by the belief by firms that regulators will 
act to ameliorate at least some of the financial losses that will be suf- 
fered if an investment plan proves too optimistic. On the agency's 
part, financial failure of a regulated firm is at best an embarrassment 
and at worst a serious problem ; the failure may be attributed to the 
decisions of the agency, and, in any event will, at least temporarily, 
cause the pattern of service to fall short of the promotional objective 
that led the agency to acquiesce to overinvestment in the first place. 
The result is a continuing spiral of overly optimistic expansions — too 
many new planes flown too frequently over too many routes — followed 
by policies propounded by regulators to bail out their charges. 

Deregulating a competitive industry will undoubtedly have some 
significant adjustment effects. Prices and pi'ofi^^s Avill probably fall, 
dramatically so in the short run, some routes will be abandoned or be 
subjected to sharp service curtailment, and some firms may face bank- 
ruptcy and reorganization. But in the long run, more and better service 
and normal profits can be expected, and at reduced prices, as firms 
learn to operate more efficiently and as the price system is used as a 
signalling device for tailoring service to user tastes. 

ALTERNATIVE TO REGULATION OF AIRLINES : DIRECT 8XTBSIDY ALLOCATED BY 
COMPETITIVE BIDDING 

If the resulting route structure is judged to be somehow unsatisfac- 
tory by the political process, competitive bidding for contracts to serve 
unprofitable routes or to fly unprofitably large and fast aircraft into 
some cities will prove a far more efficient mechanism for promoting 
the industry than regulation. The key to the contract alternative is 
its reliance on the natural forces of competition in all markets, includ- 
ing the subsidized ones. Even if Congress desires to promote a more 
developed route structure than the competitive market would yield 
but without paying subsidies from general revenues — a circumstance 
which plausibly suggests that a subsidy should not be paid in any 



75 

event — an explicit intraindustry transfer, retaininj^ the competitive 
market structure, is still feasible. Subsidized routes could be jfinanced 
by a tax on airline tickets, for example. 

Economists, myself included, blanch at most any proposal to 
engage in Government promotion of an industry, especially when 
financed by the profitable activities of the industry. Such cross-sub- 
sidization extracts its own costs in terms of efficiency of the economic 
system, and these are not trivial. But the point remains that the econ- 
omists' arguments for unregulated competitive industry inevitably 
penetrates costs but provides no benefits, except that in the short run 
existing firms in the industry that have overinvested in response to 
perverse regulatory incentives experience losses when the protective 
shield of regulation is removed. The efficient way to promote an in- 
dustry, or to force it is to respond to considerations not normally re- 
flected in the marketplace, to do so directly through taxes, subsidies, 
and performance standards tied specifically to the policy concern of 
the Government. 

Mr. Breyer. Thank you very much. 

What we are trying to do is in part generate a debate, and I would 
like to know your views, and that will be helpful to develop questions 
with other people to testify. 

First of all. I know you teach in this field, and I take it you are not 
experts in airline regulation, but you do read the things written both 
from the industry point of view and from other points of view ; and 
you feel that you have an ability to compare the trucking regulation 
with a whole host of other regulations. 

CONSENSUS AMONG ECONOMISTS 

Is there any sort of consensus among economists on the question of 
air regulations ? I have noticed a lot of economic issues. There are as 
many views as political points of view. Democratic economists say one 
tiling, and Republican economists say another. Are people pretty much 
in agreement, or is it a political thing even among economists? 

Mr. Peck. I would think there is a general consensus among econo- 
mists that airline regulation is not economically efficient. I tried to look 
for defenses by industry scholars of the present regulatory processes 
by independent scholars for my courses, and the search has been in 
vain. 

It seems to me there is an emerging consensus in economic writings 
that regulation no longer serves the public interest. Since there are 



76 

25,000 economists in the country, and we speak for three, there is ob- 
viously going to be a diversity of views, but less than other economic 
views. 

Mr. MooRE. I would like to add that I was at the President's eco- 
nomic summit, and I put forward at that summit a package of 22 steps, 
mainly which dealt with regulation, several of which dealt with CAB 
regulation in particular. At that meeting there were 23 economists, 
many liberal Democrats, many conservative Kepublicans, some of the 
best known names in the profession. 

Of the 23 people there, 21 endorsed the package or at least the gen- 
eral gist of the package, which was antiregulation. One of the persons 
did not just think it was irrelevant in connection with inflation, so that 
gives me some idea. 

Mr. Noll. When I spent 3 years at Brookings I was codirector of a 
service of research projects on regulation. Approximately 25 projects 
were undertaken, the political complexion of the researchers varied 
from the extreme right to the extreme left. All of the Federal regula- 
tions were studied in some detail and particularly the Civil Aero- 
nautics Board were studied separately, some in the Republican coun- 
cil of economic advisers and some on the Democratic council of 
economic advisers. 

They found out it was costing to the tune of several billion dollars 
a year. Economists are justifiably often criticized for failure to reach 
consensus on major policy, and in most instances that is right, that thoy 
are not people who do in fact reach consensus easily. 

On the other hand, the nice thing about being a student of industrial 
organization and regulation is that you can get along with your col- 
leagues, because you never have to run the risk of being dead wrong 
and saying regiilation has been foolish in a particular sector. I know 
of no major industrial scholarly work by an economist or political 
scientist or lawyer in the last 10 years that reaches the conclusion that 
a particular industry would operate less efficiently and less equitably 
than with regulation. The conclusion is unanimous. None outside of 
the industry organizations themselves seriously contend that regula- 
tion is serving the consumers, or has a serious, positive benefit. 

TRANSITION TO DEREGULATION 

Mr. Breyer. Are the economists, even with this consensus, suffi- 
ciently sensitive to what undoubtedly are very real problems the in- 
dustry has? If in fact you had deregulation, isn't there a risk you 
would end up putting a lot of companies out of business ? If they don't 



77 

make profits, they won't be in business. Is not there some kind of real 
risk that despite consensus in the classroom, out in the real world 
deregulation means you will force airlines out of business and end up 
with significantly worse services ? 

Mr. Noll. I think as a characterization of the transition phenome- 
non, there is a lot to be said for it. Why does it like to be regulated ? 
The answer is quite simple. Ever since 1938, 36 years, almost 37 years, 
the industry has made investment decisions, routing decisions, on the 
basis of the assumptions the industry will be regulated. 

The excess capacity of seats is not magically construed out of the 
air. So investment plans are put forth on the basis of the assumption 
that planes will be flown half empty. 

In the transition scenario from the regulated industry to the un- 
regulated industry, there are going to be financial difficulties by some 
of the firms, not by all of the firms, in the industry. Some of the firms 
will prove better able to survive than others. I would expect there 
would be bankruptcies, or not bankruptcy, but operating in a deficit. 
That is testimony of inefficiency of regulation. The reason there would 
be losses is because a whole inefficient industry structure has been 
built upon the regulation institution, a lot of decisions have been 
made because they are protected by regulation. 

Mr. Breyer. Are you saying we will end up with the possibility of 
not having an airline industry ? 

Mr. Noll. I am not finished yet. The first point to remember is what 
financial failure means. It means a lot of managers will be put out of 
jobs. The people who are now directing airline companies are directing 
because of their sophistication in dealing with regulations. That will 
no longer be a talent for which airlines will pay a high salary. 

Mr. Breyer. Are you saying that at the end of the line we will have 
an airline industry, or that we won't ? Is there a big risk or a little risk ? 

Mr. Noll. Airplanes will be there, dift'erent people will own them, 
different firms perhaps, different managers of those firms will be in 
existence. But the point is as long as you can make money flying peo- 
ple from New York to Los Angeles, there will be people and airlines 
ready to do that. There will be a transition when the ownership and 
the management changes, and the more gradual you make the transi- 
tion and the more you compensate the people for the transition, the less 
shaken]) there will be. 

Mr. Breyer Professor Peck. 

Mv. Peck. You have to distinguish between the long run and the 
short run. 



78 

The longrun prospects of an airline industry operating without 
regulations is very good. It will be a good industry. 

There is the transitional problem which economists have not really 
addressed as seriously perhaps as it deserves. It is partly a question 
of equity, partly a question of efficiency of a special kind moving to 
a new and better competitive situation. 

The proposals for tleregulation usually are stated so that they allow 
for a transition. One of the witnesses this morning said we would not 
deregulate overnight. 

But I think the transitional problems are solvable if 

Mr. Breyer. Down the road the airline industry would be profitable, 
eventually ? 

Mr. Peck. That is right. 

Mr. Breyer. Why are they so against this then? 

Mr. Peck. I am reminded of the remark the best of all monopoly 
profits is a quiet life. It may be true of our regulations; people are 
used to doing business in a certain way. They are also concerned about 
transitional problems. I would be, too, if I were a president of an 
airline. 

EVIDENCE OF OTHER UNREGULATED INDUSTRIES 

Mr. Breyer. You would ask the industry what would happen in 
the long run ? You think the problems could be overcome ? Is there any 
reason to believe if you have fears of competition, people won't start 
cutting back in safety and we won't have a lot of unsafe planes flying 
around? Don't you have to worry about people cutting back on seat- 
belts or oxygen masks ? 

Mr. Noll. If it would be profitable for them to do it in an unregu- 
lated environment, if there were evidence there would be planes falling 
out of the skies like California and Texas. 

Mr. Breyer. You mean historically they are not regulated to the 
same extent in California and Texas, is that your point ? 

Mr. Noll. That is my point. 

Mr. Breyer. They are regulated from the point of view of safety. 

Mr. Noll. That is right. 

Mr. Breyer. But they don't have fare regulations to the same extent. 

Mr. Noll. Yes. 

Mr. INIoore. British deregulation of trucking, the same problem of 
transition came up, and if you face the transition over enough period 
of time and do it appropriately you can minimize it. There will still 
be these transitional costs, and that is Avhy the airline fears it, but in 
the \on<r run the industry will perform — — 

Mr. Breyer. Trucking was deregulated in England, and the net re- 
sult was the firms were just as profitable ? 

Mr. Moore. Just as profitable as they were before, and they were 
not in fact highway safety improved, and prices came down. 



79 



DESTRUCTIVE COMPETITION" 



Mr. Breyer. There are a couple — I am just g:etting rather quick 
answers, I know — but there are a couple of things that concern me. 

People are generally concerned whether in an unregulated environ- 
ment you would discover destructive competition. Again and again 
that argument is made. Is there any reason to think you would not have 
destructive competition, such tremendous fare competition that in fact 
one airline ch'ives everybody out of business or they all go under and 
you end up without service. What is the risk of that happening? 

Mr. Noll. That is an extremely difficult question to answer briefly. 
Here are a few kinds of responses to it. No. 1, it is not obvious that 
will ever hap])en, historically, in any industry that did not have a scale 
economies, which is to say if there exists an industry where there are 
no true economies gained to being a monopoly, it is much cheaper to 
merge than to try to force the other guy to go bankrupt. Historically, 
in industries where unregulated competition has prevailed I do not 
know of a single instance where that has happened. 

Second, in the unregulated markets — or the markets that at least 
for a time were unregulated — this has not happened. PSA is not an 
airline running business losses to the point of doing in big companies 
like United. 

Another point is that antitrust laws do exist, and one of the clearest 
prohibitions in the antitrust laws is predatory price cutting, that is 
cutting prices, low costs to drive somebody else out of business and 
then raise costs. There will always be that route. 

Finally, in the case of the airline industry, even if in the short run 
someone could, if airline A could drive airline B out of a given market, 
as soon as the price went back up the airline would be able to jump 
right in. Airlines will not disappear from the face of the Earth. There 
will always be airplanes you can use to enter the market again. 

So unless a price cutter is to have his price be below cost forever he 
will not find it in his interest to engage in such behavior. 

Mr. MooRE. Pan Am and TWA offer charter service to Europe and 
have not driven other charters out of business. They have complained 
about the competition in these smaller firms. 

The same point was made by trucking. There is no expense in 
England with predatory pricing and monopoly. It just does not occur. 

Mr. Breyer. I think that is fine. 

[The prepared statements of Messrs. Peck, Moore, and Noll follow :] 

Prepared Statement of Merton J; Peck, Professor of Economics, 
Yale University 

regulatory reform of the civil aeronautics board 

I am pleased to have the opportunity to appear before you. My specialty is the 
economics of regulation, and for the past two decades I have taught courses 



80 

and published on this subject. In 1968 I served as a member of the Council of 
Economic Advisers, with responsibility for regulatory policy. I have not, how- 
ever, written on the airline industry. My comments will be based on my general 
knowledge of regulatory policy. 

In 1970, an MIT economist, Paul Maaivoy, edited a book which he called 
The Crisis of Regulatory Commissions.^ At the time I thought the title an un- 
seemly one, since the custom in academia is for colorless and somewhat pedantic 
titles. But I now think that Professor MacAvoy was right; there is a crisis in 
the regulatory commissions. 

In recent years, economists have been almost uniformly critical of Federal 
regulatory commissions. Indeed, I have sought for my courses recent scholarly 
publications that find some good in present policies. The search has been in 
vain. The uncharitable might say I have not looked diligently enough, but it 
seems to me that there is an emerging consensus in economic writings that 
regulation no longer serves the public interest. A review of these writings leads 
me to make three points : 

1. Regulation is frequently very costly to the American public. 

2. Regulation ought, in general, to be reduced. We would be better off with 
less regulation and more competition. 

3. Congressional hearings on Federal regulatory policies such as those initiated 
here are needed. 

1. Regulation is generally very costly to the American public 

Several recent studies have shown that the costs of regulation in terms of 
economic efficiency are substantial." And for airlines, we have all taken trips 
with practically empty airplanes, and yet airline fares keep climbing. 

A Yale doctoral student of mine, Michael Pustay, has attempted to quantify 
such casual observations.^ There are two factors which he recognized in his 
calculations. More flights mean shorter waiting times. That is worth something, 
and so Dr. Pustay put a valuation on reductions in waiting time. More flights 
also mean higher costs, and Pustay used the CAB costing formula to estimate 
those added costs. Pustay applied his technique to 289 city-pairs for 1969. For 
each city-pair he used a model developed by another economist, George Douglas, 
to establish the optimal number of flights, recognizing both the costs of added 
flights and the savings in waiting time. He then estimated the net cost of having 
more daily flights from the optimal number. 

Pustay's results are striking. If waiting time is valued at $10.00 an hour, the 
added costs in 1969 were $4.56 million annually, about 9 percent of airline fares 
at that time.* Of course, if waiting time is valued at more per hour, then more 
flights become economically justified. Even at $20.00 an hour the excess costs 
were $273 million annually. Pustay's results suggest that American airlines in 
1969 were flying the right amount of flights for the $60,000 a year man. Everyone 
else was being offered too many flights and too high fares." 



1 Paul W. MacAvoy (ed), The Crisis of Regulatory Commissions. W. W. Norton Company, 
1970. 

2 Studies for surface transportation are reviewed in Lee I. Sparling. "Rate Regulation 
and Freiglit Traffic Allocation, A Review and Revision," Social Science Working Paper, 
#68, California Institute of Technology, 1974. For a study of the costs of regulation in 
television, see Roper Noll. ^Terton J. Peck, and John J. McGowan, Economic Aspects of 
Television Regulation (Brookings Institution 1973). 

^ Michael W. Pustay, The Effects of Regulation on Resource Allocation in the Domestic 
Trunk Airline Industry, Yale Doctoral Dissertation, 1973. 

* Ibid., p. 117. 

^ Note that Pustay's results are for over-supplied city-pairs ; there were other smaller 
markets that had too few flights. George W. Douglas and James C. Miller used a some- 
what different approach and estimated the costs of excess capacity in 1969 as ^R66 million 
at a $10 per hour valuation of waiting time. See Economics of Regulation Domestic Air 
Transport (Brookings Institution, 1974) p. 172. 



81 

For particular city-pairs, the added costs are more striking. Chicago to Los 
Angeles is an example. Pustay calculated that if waiting time were valued at 
$10.00 per hour, the optimal number of daily flights would have been 20 with 
a 73 percent load factor. In fact, in 1969 there were 30 flights and a 49 percent 
load factor. The actual fare was $106. If there had been an optimal load factor, 
the cost per passenger would have been $50." 

Pustay's results have several limitations. The approach may over-value wait- 
ing time. It is a market-by-market analysis and some excess capacity may be 
justified because an aircraft serves several city-pairs. The calculations are for 
1969 ; since then load factors have improved somewhat. 

Still, the magnitudes of Pustay's results are so large that they clearly support 
what common sense suggests. Flying planes half empty is not good economics. 

2. Regulation ought to be lessened and more relianee plaeed on competition. 
These added costs are likely the result of regulatory policies. Regulatory com- 
missions have been loathe to see price competition emerge. At the same time 
regulated firms, like other American businesses, have been eager to expand their 
market shares. With price comi)etition tabu, the competitive rivalry is chan- 
nelled into service competition. That often takes the form of adding capacity 
to provide more frequent service which in turn raises costs. The higher costs 
as they spread to the industry generally can then become the basis for a request 
for a rate increase. 

One solution is regulation of capacity, but the better solution may be in the 
opposite direction — to allow more price competition. Consumers should have the 
choice between service and price that unregulated markets generally provide. 
And there seems no better way to ensure such choice than through allowing 
price competition. 

3. Congressional hearing on the Federal regulatory policies are very much needed. 
Congressional hearings are a highly desirable forum in which to raise the 

critical issues of regulatory reform. I have appeared as an expert witness in 
regulatory proceedings. I have been impressed with the care and diligence of 
regulatory oflicials as well as their concern with the public interest. But usually 
the issues are narrowly drawn and there is no occasion to raise broader issues 
as, for example, the desirability of more price competition. 

Congress now has a full agenda of pressing problems. One should not urge 
adding another one lightly. But regulation seems badly askew ; there is a regu- 
latory crisis. Inflation and rising energy prices appear to have made existing 
regulatory policies even more expensive to the public. And many regulated firms 
themselves are often in trouble, from Pan Am to the Penn Central. 

I would add, however, Mr. Chairman, that tlie issue of regulatory reform is 
not a new one. President Kennedy's Transportation Message of 1962 was a force- 
ful plea for deregulation. The Kennedy message called for "greater reliance on 
the forces of competition and less reliance on the restraints of regulation." ' 
The legislation that accompanied that message did not fare well in Congress. 
And yet it seems to me that President Kennedy's plea for deregulation was good 
economics then ; it may be even better economics today. 



° Pustay, op. cit. p. 123. 

■^ Quoted in Ann F. Priedlander. The Dilemma of Freight Transportation, Brookings 
Institution, 1970, p. vii. 



51-146 O - 76 - pt. 1 



82 

Prepared Statement of Thomas G. Moore, Senior Fbxlow, The Hoover Institu- 
tion ON War, Revolution, and Peace, Stanford University 

THE REGULATORY REFORM OF THE CIVIL AERONAUTICS BOARD 

It is a great honor and privilege to be here today to give my views on this 
important topic. This subcommittee must be commended for leading the way in 
exploring a vital topic — regulatory reform. 

As you know, next year marks the 200th anniversary for the founding of this 
great Nation. It also marks the 200th anniversary of the publication of one of 
the world's greatest books, The Wealth of Nations. I would like to take the 
text for my statement today from Adam Smith's opus. While he wrote in 1776, 
it is still true today that : 

No regulation of commerce can increase the quaiftity of industry in any 
society beyond what its capital can maintain. It can only divert a part of it 
into a direction into which it might not otherwise have gone; and it is by 
no means certain that this artificial direction is likely to be more ad- 
vantageous to the society than that into which it would have gone of its 
own accord. 
Adam Smith understated the case. My research and that of others show that 
regulation produces wastes, higher prices, and often poorer service. My work 
has covered ICC regulation of surface freight transportation, the regulation of 
trucking in Europe, the regulation of electric utilities by state commissions, 
occupational licensing, and the regulation of stock market margin requirements. 
As a result of these studies and the studies of others it is possible to draw 
some conclusions about regulation as a whole. Regulation's main effect is to in- 
crease the cost of the product or service offered ; normally consumers will have 
to pay higher prices ; even the regulated gain little. 

Transportation regulation, which I have been studying in recent years, is 
particularly relevant to the topic of these hearings. I found in studying the 
regulation of surface freight transportation by the Interstate Commerce Com- 
mission that it had increased the cost to our country of moving our goods between 
$3.8 and $8.8 billion in 1968. The cost today with inflation is obviously 
much higher. This cost stems from ICC efforts to insure that each of the firms 
under its control is profitable. In order to insure profitability of even ineflacient 
firms, the ICC restricts competition by attempting to give each firm a limited 
market that few if any other firms my serve. In order to restrict competition 
firms are often granted authority to carry goods from one part of the country to 
another but without authority to carry goods on the back haul. Route restrictions 
have forced trucking firms to drive hundreds of miles out of their way or not 
offer a through service between points they are authorized to serve. 

I have just returned from studying regulation of trucking in Europe. West 
Germany has the most strict regulation in Europe, controlling both rates and 
trucking capacity. Trucking rates in West Germany in 1973 were over 50 percent 
higher than in Great Britain which has no economic regulation whatsoever. 
But interestingly enough profits appear to be as high or higher in the uncontrolled 
British situation than in West Germany. 

Economic theory and some evidence have shown that regulation of utilities 
tends to inflate costs. Becau.se regulators permit firms to earn a certain rate of 
profit on their investment, regulated utilities have a tendency to substitute capi- 
tal, which goes into their rate ba.se, for labor. This means that they can earn 
larger profits although costs of production as well as utility rates will be higher. 
My own research indicates that utility rate regulation has not appreciably re- 



83 

duced rates below what the firms would charge in the absence of such regulation. 
Under some plausible assumptions rates are actually higher for electric utilities 
than they would be if there were no controls. 

The problem is that regulation as a process is inherently faulty. No rewriting 
of the regulatory statutes or appointment of better regulators can do more than 
make some minor improvements in a bad situation. There are a number of reasons 
why regulation is inherently faulty, some of which I will touch on, others will be 
discussed in more depth by my colleague this morning, Roger Noll. 

I would like to emphasize the compulsion of each regulator to protect his par- 
ticular industry. In some cases the act establishing the regulation makes specific 
the need to promote the health of the industry. For example the Civil Aeronautics 
Act specifies in Title I that : 

In the exercise and performance of its powers and duties under this Act, 
the Board shall consider the following * * * as being in the public inter- 
est * * * (a) The encouragement and development of an air-transportation 
system * * * (b) The regulation of air-transportation in such manner as 
to * * * foster sound economic conditions in, such transportation * * *. 

Given that mandate how can the CAB idly stand by while Pan American fails? 
It can't. In 1974 the CAB approved four rate increases for international opera- 
tions to bail out Pan Am and TWA. 

i^ailure of a major company regulated by an agency is considered to be a 
failure of that regulatory agency. But under a few market system, both the 
carrot and the stick are needed. Failure is necessary to force firms to meet the 
needs of the public. Even where an act establi>hing a regulatory commission 
does not specify that a prosperous industry is important, regulators will believe 
that unless the regulated firms earn profits they will be unable to serve their 
customers. Thus the regulators will consider it their duty to the public and to 
consumers to make the industry profitable and one of the most efficient ways to 
accomplish that is to reduce competition. 

Your committee in hearings last fall investigated a clear example of the tend- 
ency of regulation to restrict competition. As your excellent staff report brought 
out, the CAB was attempting to set minimum charter fares to I'educe competi- 
tion. To quote from your report, such minimum rates were sought "in order to 
help Pan American with its financial problems." 

Prohibiting regulators from restricting competition in order to protect com- 
petitors won't work. The Congress in the Transportation Act of 1958, wrote a 
clear prohibition on protecting one mode from competition of another, yet the 
ICC has continued to do just that. Protecting competitors and reducing competi- 
tion is inherent in all economic regulation. 

In inherently competitive industries such as airlines and trucking it is vir- 
tually impossible for the regulators to eliminate competition. The best the regu- 
lators can do is to eliminate price comi>etition and thus to hold prices up. But 
this simply stimulates firms to compete in non-price areas. A few years ago the 
international airlines engaged in a sandwich war to attract passengers. More 
recently in the U.S. we have witnessed a seating war, with airlines competing to 
offer the most comfortable .seats in coach class. Last fall there was a free drink 
war. Since rates are identical due to CAB regulation, airlines compete by pur- 
chasing the most up-to-date equipment and phasing out older and slower equip- 
ment long before it would be obsolete under a more rational system. No scheme 
of regulation that permits management to manage the firms can eliminate non- 
price competition. There are an infinite number of ways firms can compete. As a 



84 

result of the non-price competition, most of the profits originally generated by 
high rates are dissipated. 

In adtiition to the inevitability of non-price competition, which tends to erode 
the profits that the regulators are attempting to guarantee he industry, the firms 
compete for regulatory favors. If a route to Hawaii or Florida is profitable, firms 
can and will spend millions in legal fees and legal maneuvers attempting to win 
the franchise or to block others from securing the franchise. For example, sup- 
pose that a firm is earning one million in clear profits a year from a route. It is 
then worth spending up to a million a year to block the introduction of competi- 
tors. To the would-be comi>etitor it may be worth half a million if he enters. As 
a result the potential entrant will be willing to spend large sums to secure a 
license, perhaps as much as two and a half million dollars. The entire profit on 
such a route can be dissipated in this competition for licenses. 

In many ways regulation is the worst of all worlds for everyone. While the 
regulators try to guarantee profits, non-price competition and legal competition 
work to eliminate the profits. Consumers pay high prices but the regulated firms 
don't reap the benefits. Costs are inflated ; profits are no greater than they would 
be without regulation ; and prices are higher. 



Prepared Statement of Roger G. Noll, Professor of Economics, California 
Institute of Technology 

the causes of regulatory failures 

During the past 15 years an impressive literature has developed in economics, 
law and political science evaluating the performance of regulatory agencies. 
To an extent uncharacteristic of academic research, this literature is remark- 
ably consistent in its principal finding. Most scholars of public policies toward 
business have come to believe that public utility regulation — the control of 
prices, profits, service quality and the entry and exit of firms from the industry — 
is an exceptionally costly, ineffective instrument of government policy. Numerous 
studies published in the last few years have identified gross inefficiencies and 
inequities in the key sectors subject to regulation — transportation, communica- 
tions, energy — that can be traced to seemingly nonsensical rules and policies of 
regulatory agencies. 

The purpose of my statement is not to discuss in detail the findings of these 
research studies, since many of the authors of such studies will be heard at 
these hearings. Instead, this statement deals with the causes of regulatory fail- 
ures, with the purpose being to contribute to the dialog about the possible mecha- 
nisms for reforming or replacing regulatory institutions. 

In establishing institutions to control the market activities of private firms, 
government is faced with two dilemmas. These dilemmas are probably unresolv- 
able, and thereby guarantee that the agency will impose serious social costs if it 
tries to do the job for which it was created. 

The first dilemma arises from the incompatibility of structuring a decision 
process that is "fair", e.g., decisionmakers are accountable for their actions, 
individuals are accorded due process, etc., and that makes decisions with dis- 
patch. It is inconceivable that the kinds of power to redistribute wealth that 



85 

inheres in regulatory institutions would be delegated to any bureaucracy with- 
out subjecting the decisions to judicial review and without giving affected in- 
dividuals the right to plead their cases before decisionmakers. 

To safeguard the rights of individuals against capricious and arbitrary de- 
cisions of an agency requires establishing decisionmaking procedures that 
normally cause decisions on important issues to be protracted. This can create 
serious problems in three types of circumstances : when rapid inflation pushes 
costs up and firms can not respond to cost increases by raising prices until a 
protracted regulatory review has been completed, when a technological develop- 
ment that would lower costs and improve service quality can not be fully ex- 
ploited without regulatory review, and when an innovative new firm seeks to 
enter a regulated market but must first win the approval of the regulators. 
The last two effects significantly reduce the incentive to the firm to be innovative, 
since to all the risk and costs of innovation are added the expense in time and 
resources of a regulatory proceeding, while the risk of a more innovative com- 
petitor capturing a superior market position is reduced. 

The second major dilemma of regulatory institutions reflects the trade-off be- 
tween an expensive regulatory process and a process that is insulated from the 
individuals affected by its outcomes. In part because the preservation of account- 
ability and due process through judicial review makes participation in the regu- 
latory process expensive, and in part because the vast majority of persons who 
are affected by regulatory decisions are not eft'ectively organized to represent 
themselves in regulatory proceedings, the flow of information and proposed rules 
to the agency is one-sided. A passive agency that relies upon the evidence supplied 
by participants in the process will inevitably make decisions based upon incom- 
plete as^sessments of the issues at hand ; an agency that can generate its own, 
independent flow of information on every important case will be much more ex- 
pensive to operate. In fact, none of the federal regulatory authorities engaged in 
price and profit regulation devotes anywhere near the resources to generating 
information for use in regulatory proceedings that is committed by the industries 
they regulate. 

The recent debate over the regulation of cable television is an illustrative case 
in point : the final regulatory rules were worked out by a coalition of broadcasters, 
cable system owners and program producers. While each of these groups cast 
their arguments defending their own positions in terms of the beneficial effects a 
system sati.«fying them would have on society at large, and while the FCC devoted 
some staff resources to investigating the stake of viewers in the issue, nevertheless 
the final comi)romise was hammered out exclusively by the well-represented 
special interests, and was adopted by the FCC explicitly because none of the 
three groups would appeal the compromise, legally or politically. 

These endemic problems of regulation do not necessarily lead to the conclusion 
that under no conditions should industry be regulated. All that they imply is that 
certain inevitable costs are to be expected. Generally, these costs will be higher if : 
1) the sophistication required to determine the true technical and economic condi- 
tions of the industry is greater, 2) the greater the iX)rtion of the effects of regula- 
tion that is diffused over a large, heterogeneous group that is unlikely to be effec- 
tively organized, and 3) the more uncertain and rapidly changing the economic 
environment in which the regulated firms operate, such as is the case during 
a period of rapid inflation or deepening recession. 



The cost of regulation is also likely to be greater the more competitive the regu- 
lated industry. This is because entrenched firms are to some extent protected from 
competition by the slowness and costs of procedures that must be followed by 
new entrants into a market. In addition, the regulatory forum allows competitive 
firms to engage in a far greater degree of collusive behavior than would be 
permitted in a normal competitive circumstance. And by exercising some control 
over the information flowing to the agencies, while constituting the primary 
threat of appeal to the agency's decision, the industry can push the agency to make 
policies and adopt rules that enforce cartel-like behavior upon the firms in the 
industry. These type of actions — the mutual service reduction agreements among 
the airlines that were promoted by the CAB are good examples — would surely be 
antitrust violations in the absence of the protective umbrella of the regulatory 
statutes. 

The principal conclusion of the preceding remarks is rather straightforward : 
one should keep in mind the costs of regulation when deciding whether to regulate 
any particular industry, and whether to continue to regulate an industry that was 
subjected to regulation when circumstances were far different from the present. 
For example, if an industry becomes increasingly able to support a competitive 
market structure as time progresses, the expected costs of regulation will increase 
while the expected benefits of regulation will decline. 

Presumably the argument for regulation of most industries is more complex 
than simply the avoidance of monopolistic practices. In the case of domestic air- 
lines, regulation has a certain promotional feature, owing to the affects at- 
tributed to an extensive air route structure on economic development, the dis- 
tribution of economic activity, and national defense. "Without debating the merits 
of these contentions — which are, of course, eminently debatable — the issue re- 
mains which policy instrument can most effectively generate the desired route 
structure. The diflBculty with the regulatory approach is that this explicit pro- 
motional aim gives the regulatory authority an even greater industry-orientation 
than the institutional dilemmas would normally produce. On the industry's part, 
promotional, cost-plus regulatory policies generate overly optimistic investment 
plans since the incentive for investment is heightened by the belief by firms that 
regulators will act to ameliorate at least some of the financial losses that will 
be suffered if an investment plan proves too optimistic. On the agency's part, fi- 
nancial failure of a regulated firm is at best an embarrassment and at worst a 
serious problem : the failure may be attributed to the decisions of the agency, 
and. in any event, will, at least temporarily, cause the pattern of service to fall 
short of the promotional objective that led the agency to acquiesce to overinvest- 
ment in the first place. The result is a continuing spiral of overly optimistic 
expansions — too many new planes flown too frequently over too many routes — 
followed by policies propounded by regulators to bail out their charges. 

Deregulating a competitive industry will undoubtedly have some significant ad- 
justment effects. Prices and profits will probably fall, dramatically so in the short 
run, some routes will be abandoned or be subjected to sharp service curtailments, 
and some firms may face bankruptcy and reorganization. But in the long run, 
more and better service and normal profits can be expected and at reduced prices, 
as firms learn to operate more efficiently and as the price system is used as a 
signaling device for tailoring service to user tastes. 

If the resulting route structure is judged to be somehow unsatisfactory by the 
political process, competitive bidding for contracts to serve unprofitable routes 



87 

or to fly unprofitably large and fast aircraft into some cities will prove a far 
more efficient mechanism for promoting the industry than regulation. The key 
to the contract alternative is its reliance on the natural forces of competition in 
all markets, including the subsidized ones. Even if Congress desires to promote a 
more developed route structure than the competitive market would yield but 
without paying subsidies from general revenues — a circumstance which plausibly 
suggests that a subsidy should not be paid in any event — an explicit intraindustry 
transfer, retaining the competitive market structure, is still feasible and subsi- 
dized routes could be financed by a tax on airline tickets, for example. 

Economists (myself included) blanch at most any proposal to engage in gov- 
ernment promotion of an industry, especially when financed by the profitable 
activities of the industry. Such "cross-subsidization" extracts its own costs in 
terms of efl!iciency of the economic system, and these are not trivial. But the 
point remains that the economists' arguments for unregulated competition are not 
dependent upon their position on cross-subsidization, and the two issues should 
not be confused. Regulating a competitive industry inevitably generates costs but 
provides no benefits, except that in the short run existing firms in the industry 
that have overinvested in response to perverse regulatory incentives experience 
losses when the protective shield of regulation is removed. The efl^cient way to 
promote an industry, or to force it to respond to considerations not normally re- 
flected in the marketplace, is to do so directly through taxes, subsidies and per- 
formance standards tied specifically to the policy concern of the government. 



Mr. Breyer. I think it will be 2:30 when we reconvene this 
afternoon. 

[Whereupon the subcommittee adjourned at 1 :25 p.m., to recon- 
vene at 2:30 p.m. that same day.] 

AFTERNOON SESSION 

Senator Kennedy. The subcommittee will come to order. 

Our next witness is Mr. Alfred Kahn, chairman of the Public 
Service Commission, State of New York, who taught economics at 
Yale University and served as a senior staff member of the economic 
advisers, and is presently on leave from Cornell University. He has 
written extensively in the area of economic regulation. 

Mr. Kahn. 

STATEMENT OF ALFRED E. KAHN, CHAIRMAN, NEW YORK STATE 
PUBLIC SERVICE COMMISSION 

Mr. Kahn. I am very honored by your invitation to testify here. 

I have been asked to hold my testimony to 10 minutes, which means 
I will have to talk terribly fast. I will make no effort to read my 
statement. 



88 

I hope I am not here under false pretenses. I have been a student of 
economic reguLition for some time and now a practitioner, but I am 
not an expert on the airline industry and do not presume to come to 
you with explicit reconunendations. 

There are certain common tendencies and patterns in regulation, 
however, which I would like to bring to your attention. In fact. I will 
make four points which may be illuminating to you. at least 10 minutes 
worth. If you try to follow my statement you would not succeed. 

KEGULATIOX IS AX IMPERFECT IXSTITUTIOX 

First, it is a commonplace observation that regulation is a very im- 
perfect institution. I think it is essential where competition is not feasi- 
ble, and of course that is where I happen to operate, in Xew York State, 
that is to say where competition is inconsistent with economies of scale. 
But it cannot do what competition does. It cannot innovate. It cannot 
force companies to be efficient. It cannot force management to be enter- 
prising. It cannot make companies risk their own capital. So regulation 
has an inevitable large element of cost-plus in it with all the familiar 
deficiencies of such arrangements. 

REGrLATIOX IS AXTITHETICAL TO COMPETITIOX 

Point Xo. "2 : Although there are many ways in which it makes sense 
to try to introduce competition into a regulated system, still funda- 
mental competition and regulation are antithetical. 

I think, possibly the airline industry performs better than it would 
by virtue of the presence of some competition in it. But fundamentally, 
there is something inherent in regulation that makes it hostile to 
competition. 

By the way. this has nothing to do with honesty or corruption or 
irresponsibility of regulatoi-s. It has to do with the fact that under 
competition nobody is responsible for supply, no single firm has an 
obligation to serve. The protection of consumers, the assurance of sup- 
ply comes from the impersonal functioning of the competitive market. 

In a regulatory situation, in contrast, we rely on chosen instruments, 
identifiable firms and the i-egulator himself. 

As a result, I. as chairman of the Public Service Commission of 
New York, feel a kind of direct pei-sonal responsibility for seeing 
to it that lights will go on in 19S5 when people flick on the switches. 
That means" that I have to be very solicitious of the financial health 
of those chosen instrument companies. Similarly, every i-esponsible 
airline regulator will undoubtedly tell you that he has an enonnous 
responsibility for the continuation of ample, safe, and economical air 



89 

service. That inevitably produces a distrust of price competition. It 
is a nuisance, a threat to the financial health of the chosen instruments. 
Competitive innovations may suddenly render obsolete a whole bunch 
of equipment. Competitors have an inherent tendency, in the words of 
regulators and regulatees, to skim the cream off the market, which is 
only to say they tend to go in naturally where prices are high, and 
they stay out where costs are high relative to price. So the regulator 
will ask you how they are supposed to supply continued service in 
bad weather as well as good, in the winter as well as the sununer, over 
lightly-traveled as well as heavily-traveled routes, if competitors are 
allowed to come in and skim off the cream off the profitable operations 
that support the unprofitable. So, to a regulator, competition is a 
nuisance. 

This means that where you are dealing with an industry that is 
structurally competitive — the brokerage business on security ex- 
changes, trucking — regulation typically involves cartelization. It 
means holding prices up, not down, it means preserving market shares 
of existing firms. Now, that is a distinction not often made. Ask your- 
self when you look at a particular instance of regulation : Is it f imc- 
tioning to keep price down, which I think is my job in Xew York 
State, or to keep prices from falling, which often happens in trans- 
portation ? Or again, is it trying to hold the quality of service up, or 
is it trying to hold service competition down, as I think you will find 
in the airline industry. That is my second point. There is a basic 
antithesis here. You have to choose. 

REGULATION PRODUCES CARTELIZATION AND INEFFICIENCY 

No. 3, in these structurally competitive situations, regulation and the 
cartelization that goes with it, it is terribly inefficient in terms of 
producing at the lowest possible cost. In some ways, it is the worst of 
all possible worlds. It is worse than single-firm monopoly ; it is worse 
than competition, no matter how imperfect competition is. 

It is hostile to letting business go into the most efficient firms. 
Instead, it tries to preserve the market shares of all firms, high-cost 
and low-cost. Think of the ICC and its limitations on competition by 
the railroads, often when they can reach out and take business at a 
lower incremental cost, not letting them do so. Think of the proration- 
ing of crude oil. To the extent they cut back output, they did not cut 
back equally, but instead they imposed stringent controls on the low- 
cost wells, at the extreme of holding them down to 8 days of produc- 
tion a month, and exempted the high-cost marginal producers. They 
had higher quotas for deep wells, because they were more costly. 



90 

Cartels encourage inefficiency in another way. If you hold price up, 
it induces people to try to expand capacity. Inside tne cartel, by drill- 
ing additional oil weils or scheduling more flights, or outside the 
cartel, look what is happening in the oil industry today. The result 
is, if the cartel is going to lunction, it has to cut back output more and 
more, so that everybody operates at an inefficient level of capacity. 

That is my third point : Cartelization tends to be terribly inefficient. 

Before getting to my fourth point, I would like to explain the 
simple economics of why cartels produce inefficiency. I will do so 
in the form of a series of propositions, but with enough illustra- 
tions to demonstrate that I am talking about the real world. If regula- 
tion limits competition, it must be because some competition would 
otherwise be feasible: Ability and will to compete are therefore 
present. And if the regulation is effective, it will hold price above 
the costs of at least some producers or potential producers. I have 
already described how this sets up persistent temptations for firms 
already inside the cartel to expand their capacity and output, and 
for firms outside the market, and possibly outside the boundaries of 
the cartel, to enter, increasing the aggregate capacity hanging over 
the market and creating the necessity for progressive cutbacks of out- 
put quotas, if the price is to be sustained. These temptations cease 
only when output is so curtailed, and unit costs of production so 
increased, by the production cutbacks that entry and investment in 
new capacity are no longer attractive. 

REGULATION INDUCES EXCESS PRICE AND SERVICE TO THE EXTENT THAT THE 
INDUSTRY IS NATURALLY COMPETITIVE 

For exactly the same reasons, and this is my fourth point : Controls 
over price competition are subject to evasion because of the incentive 
they provide for accentuated quality and service rivalry, limited only 
by the ingenuity of businessmen in seeking new methods of enticing 
customers to them. I do not have to cite you the airline examples of 
that, the strenuous competition, instead of via price, in adopting the 
most modern equipment, in the frequency in which they schedule 
their flights, in attractive hostesses, in-flight entertainment, food and 
drink. 

Let me state the general underlying principle: If regulation or 
cartelization prevent price from falling to costs, then, to the extent 
that competition continues to prevail, it will tend to raise cost to the 
level of price. 



91 

One of the most flagrant examples of this — and it is a liistorical 
one — I do not know wlietlier it represents CAB policy today — was 
the refusal of the CAB to let carriers with older piston equipment 
reduce their rates sufficiently below the level for jet fares to keep that 
piston equipment in service as long as economically justified. Carriers 
asked the CAB to let them reduce those rates, the CAB said no it 
would not permit them. Now, if the prices are kept equal, then of 
course nobody is going to go on a piston craft. 

What is wrong with service competition of this sort? Surely in 
some degree it is obviously desirable. The more flights you have sched- 
uled the more convenient it is. What is wrong with it, is that cus- 
tomers, if you do not have price competition, are not given a choice, 
and so you have no way of knowing whether your quality competition 
is excessive. The only way of testing whether the increment of in- 
service quality involved, for example, in more intensive scheduling is 
worth the higher cost, is to offer shippers or travelers the choice be- 
tween lower rates and less frequent operations, on the one hand, and 
higher rates to cover the costs of more frequent scheduling, on the 
other. The same flights that provide no food, drink, or entertainment, 
on the one hand, and sumptuous flights, on the other, and as many 
other combinations as feasible in between. 

In my paper I refer to the same tendency in the security brokerage 
business. They compete in salesmanship, and free advice. Wliat about 
the fellow who says I do not want salesmanship, I just want to con- 
summate a transaction ? 

That, of course, is what competition does, it off'ers you such choices. 
Now, in these circumstances, it is understandable that regulators have 
constantly to spread the net of their regulation. If they can raise 
prices, then people want to expand output, so they have to control out- 
put. If they do that, they find it attracts new firms into the market, and 
then they have to keep firms out of the market. If they do that and 
still hold the price up, and find this attracts imports, then they have 
to put quotas on inputs. If they prevent price competition, and firms 
escape it by engaging in destructive quality competition, then they 
find themselves forced to put a lid on quality competition, too. 

All these tendencies of regulation in a structurally competitive in- 
dustry inescapably raise the question of whether it would not be pref- 
erable simply to abandon economic regulation, and open the field to 
competition. 

Did I make it in 10 minutes ? 



92 

THE GENERAL CONDITIONS OF DESTRrCTI^^R COMPETITION 

Senator Kennedy. What about the other side of the coin, though, 
what about the destructive competition? Don't we have the most elab- 
orate service of air transportation in the world, and probably the 
safest? That is certainly woiih something to the traveling consumer. 
How can we be so sure that if you allow competition you will not get 
destructive competition and uncertainty and unrealiability ? 

Mr. Kahn. Those are real questions which explain my qualification 
at the beginning, I am not going to be able to give you decisive 
answers. But I do have a few suggestions of places to look. 

First, no businessman protected from competition ever believes com- 
petition is anything but destructive. In the same way, he does not 
use the word "competitor" he uses "chiseler." 

Second, there are conditions which are conducive to destructive com- 
petition, and you have to see if they apply in this case. Where you 
have very heavy capital costs, or enormous economies of scale such 
that marginal costs are typically Avay below average costs you will 
have a tendency for competition to drive rates down to that level. 
You will want to look and see whether that is really true in this in- 
dustry. Third, is capital immobile? Once it is there, does it tend to 
get stuck and not be able to get out ? 

Well, in trucking, of which I have a greater knowledge, I emphasize 
that trucks are very mobile, they can move from one market to the 
next. Moreover, a large part of your costs are variable; so prices can- 
not go down very far. If you can move, especially with transporta- 
tion equipment, you can move to another market, competition in any 
market cannot be destructive. 

Fourth, is entry likely to be excessive? Well, I am very skeptical 
that you will have rapid entry into airline mai'kets. It is not an easy 
thing, where you have product ditferentiation in these markets and 
the attractiveness of known brands, I am skeptical of that. 

Look at some areas where you have unregulated com])etition. You 
have probably heard the story of California and Texas. I would look 
very carefully at those instances. It appears they have effective com- 
petition, and it is not destructive. 

Senator Kennedy. Do you think it would be useful to have some- 
body on the regulatory commission who is an economist? 

Mr. Kahn. Why I think it would be marvelous. No, I really be- 
lieve that. Senator Kennedy. It is amazing to me how few econo- 
mists there are. I think it mijrht be fatal if thev are all economists. 



There is a perspective that an economist brings that is very important. 
An economist tends to think in terms of benefits versus costs, and every 
decision we make in our society today is a benefit-cost measurement, 
whether we like it or not. 

Senator Kennedy. Thanks very much. I hope you make your plane. 

It was very interesting and very helpful. 

[The prepared statement of Mr. Kahn follows :] 

Prepared Statement of Alfred C. Kahn, Chairman, New York State Public 
Service Commission 

I am honored by your invitation to testify before your subcommittee on the 
reguhition of tlie airline industry. I trust I do not appear here under false pre- 
tenses. I have for many years been a student of the economics of regulation, and 
now find myself a practitioner, but I do not consider myself sufficiently expert 
on the airline industry to presume to give you specific recommendations about 
how it should be regulated, or whether it should be regulated at all. 

And yet, whi.e it is true that each regulated industry is in some degree unique 
and the policy with respect to it must be designed in the light of its own peculiar 
characteristics, it is also true that regulation manifests certain tendencies and 
raises certain problems common to all industries. I hope therefore that, by de- 
scribing to you those general tendencies and problems that seem to me particularly 
pertinent to airlines, I may be of help to you in your effort to assess the system 
of regulation that we apply to that industry today in the United States. 

The first observation I would like to make is that competition and the kind of 
regulation we practice in the public utility industries — and that is the only kind 
of regulation I am concerned with in this testimony ^ — are inherently antithetical. 
While the choice between these two control mechanisms is rarely absolute, as I 
will point out presently, society typically must in each individual instance choose 
whether to rely on regulation or on competition to protect the public interest ; it 
cannot typically have both. It is commonplace that direct regulation becomes 
necessary where competition is not feasible; regulation is imposed because 
competition is throuiiht to be ineffective. And it is now also commonplace that 
regulation has a strong inherent tendency, in turn, to control and eliminate com- 
petition that would otlierwise prevail. 

This is so not only for the superficial reason that regulation, by definition, 
typically involves the imposition of limitations on competitive entry and inde- 
pendent competitive action in the determination of price. It is also because regu- 



1 Government influences the functioning of the economy generally in a wide variety of 
ways, for example, by repulating the supply and availability of money, enforcinp: contracts, 
providing subsidies or tariff jirotection, prohibiting unfair competition, imposing standards 
for packaging and product contents, licensing entrants into various trades and professions 
on the basis of qualifications, .-ind in the case of airlines, licensing pilots and imposing 
various other rules in the interest of safety. But all of these instances of regulation, at 
least in principle, are intended not to supplant the competitive market as the principal 
instrument of social control, but to supplement it to remove its imperfections, in theory 
to make it work better. The regulation thnt I am concerned with in this testimony is the 
kind that is practiced in the public utility sectors of the economy, and in considerable 
measure in civil aviation, and lias as its central purpose the direct prescription of ind'istrial 
structure and performance, by such devices as restricting entry into the market to the 
number that some government commission determines is desirable and imposing on the 
certificated firms an obligation to serve all customers under reasonable conditions, directly 
fi.xing price, and prescribing the quality and conditions of service. 



94 

lation tends iuherently to place a heavy emphasis on protecting the companies it 
is also supposed to be controlling. I do not mean here to repeat the vulgar popular 
notion that regulators are typically "in the pockets of the utility companies," and 
somehow untrue to the public interest that has been entrusted to them, though 
there are undoubtedly many examples of this. The tendency is one that will 
inevitably affect also honorable and dedicated public servants. 

The reason is this : Under competition, in principle, no government oflScial and 
no single company is responsible for the continuity of supply ; no company has 
an obligation to serve. The consumer's protection comes from the impersonal 
functioning of the competitive market itself, from the rivalry among companies, 
from the fact or threat of competitive entry. Regulation, instead, relies on chosen 
instruments. A specific company is given a franchise ; and that company and the 
regulating agency, instead of the market itself, bear the direct responsibility for 
serving and protecting the public. That responsibility weighs heavily on the reg- 
ulator. I feel some direct, personal responsibility for seeing to it that the lights 
will still go on when people in New York flick their switches in 1985. Since it 
takes six to twelve years to install new base-load generating capacity. I have to 
be concerned about the ability of the franchised electric companies in my State 
to begin taking the steps today that will assure that result a decade from now. 
And that means, to complete the explanation, that I have to be solicitous of the 
financial health of those chosen instruments. So every responsible airline regula- 
tor, similarly, will emphasize his heavy responsibility for the continued provision 
of ample, safe, and economical air service in every part of the country. 

And that responsibility, in turn, inevitably breeds a distrust of competition. 
Price competition, particularly in times of excess capacity, is a threat to the 
financial health of the chosen instrument company. Competitive innovations, intro- 
duced without restraint, may suddenly render obsolete the utility company's 
investment in as yet in completely depreciated equipment, leaving the residual 
of depreciation somehow to be recovered from its other customers, if it is to retain 
the financial health and ability to attract the capital necessary to provide con- 
tinued service. Competitors have an inherent tendency, in the words of regulators 
and regulatees, to skim the cream off the market — which is only to say, very 
roughly, to compete for business where prices are far above costs, and to leave to 
the chosen instruments the markets where costs are far above price. How, the 
regulated company and regulator will protest, are they supposed to provide con- 
tinued service in bad weather as well as good, in the winter as well as in the 
summer, over lightly-traveled as well as heavily-traveled routes, if competitors 
are to be free to come in and skim off the profits from the latter that have been 
financing service on the former? To the regulator, then, competition is disruptive 
and threatening, it interferes with orderly planning, it upsets stable markets ; it 
is something to be restricted, confined, prohibited. 

You will not need my help in seeing manifestations of this tendency in the air- 
line industry. 

This does not mean that competition has no useful role to play in regulated 
industries. On the contrary. Regulated monopoly is a very imperfect institution. 
The authority of the regulatory commission is essentially negative ; at best, it 
serves only as a check on the exercise of private monopoly power ; prevents exces- 
sive profits and excessive discrimination. It is extremely diflScult for it to take 
major initiatives. A regulator cannot risk his own capital, and the 14th amend- 
ment puts severe limits on his ability to force the companies under his supervision 
to risk theirs. He cannot force a company to be progressive, to innovate, indeed, 
even to be efiicient. He cannot do what a good management can do, and there 
is very little he can do about what poor management does. In short, he cannot 
supply the dynamic stimulus that in other industries is supplied by competition. 



95 

There is, therefore, a very respectable body of opinion that regulation really 
has very little eftect. This view merges with the other, which I have already 
characterized, that regulators tend, almost inevitably, to associate their concep- 
tion of the public interest with that of the companies they are supposed to be 
regulating, typically protecting them against competition and supplying no alter- 
native effective stimulus. Paradoxically, according to this view, regulation has the 
greatest eftect in areas, like transportation, where competition could otherwise 
prevail, and there, because of its tenuencies to protectionism and cartelization, 
it tends to do a great deal of harm ; and elsewhere, in the presence of monopoly, 
its effects are not discernible. 

For these reasons, where it can be permitted without intolerable loss of efficiency 
competition can play a very useful supplementary role even in the most tightly 
regulated industries. In my judgment, for example, while the basic intercon- 
nected, national communications network is probably something like a natural 
monopoly, competition can and should play an important role in the manufactur- 
ing industry that supplies equipment for attachment to that network at the sub- 
scriber's end. Similarly, I believe that such competition as we have permitted 
in the passenger airline business has, on balance, improved its performance. 

Still, to return to my first major point : because of the inherent conflicts and 
contradictions between competition on the one hand and regulation on the other, 
and because of the inherent tendencies of regulation toward conservatism, pro- 
tectionism, and cartelization. society must periodically reexamine the premises 
on the basis of which it decided to impose on the public utility status of an 
industry, and consider whether a return to essentially unregulated competition 
might not be preferable, as this Committee is doing today. This is especially 
important in those industries, like transportation, where a competitive struc- 
ture may well be feasible — that is, consistent with the individual suppliers 
achieving most or all of the available economies of scale. Transportation is 
not a natural monopoly. It is precisely in such situation that it becomes essen- 
tial for us periodically to ask whether regulations may not be doing more harm 
than good. In my own judgment, transportation is the leading example of an 
area in which a substantial dose of dereguation, and perhaps something close 
to complete deregulation, is long overdue. 

In the rest of these comments, I will suggest to you why I think this kind of 
reevaluation is particularly necessary in an industry like airline transportation. 

Before doing so, I should like to emphasize that competition in the real world 
is also a very imperfect institution. Consumers are rarely adequately informed 
about the choices available to them, and as a result the competitive advantage 
often goes to the more effective saleman, or the less scrupulous advertiser, rather 
than the most efficient producer or the seller who gives the best value for the 
dollar. The greater the number of independent suppliers, the more likely mistakes 
are to be made, and capital committed to ventures that should never have been 
undertaken. Competition is often wasteful, and produces instability and uncer- 
tainty. But most of us regard the competitive market in much the same way as 
we regard democracy — it is a manifestly inefficient system that is better than any 
available alternative. To the extent competition is imperfect, our preferred remedy 
is to try to diminish its imperfections, rather than to supplant it with monopoly 
or socialized enterprise. 

But public utility-type regulation in industries that are potentially and struc- 
turally competitive tends to produce the worst economic results of all — worse 
than regulated, franchised single-form monopoly, on the one hand, and worse 
than unregulated competition, with all its possible wastes and imperfections, on 
the other. There are so far two major reasons, and both spring from the fact that 
in industries of this kind, of which transportation is the leading example, regu- 



96 

lation specifically involves preventing, controlling and limiting competition — 
restricting competitive entry, and prohibiting rivalry in price and service — in 
brief, to use the proper term, it involves cartelization. 

In principle, a cartel need be no less efficient than a pure monopoly. Single- 
firm monopoly has both the incentive and the opportunity to produce at minimum 
cost, to take fullest possible advantage of economies of scale, to adopt the most 
efficient technology, to limit capacity to the amount required to supply the market 
at minimum cost, to concentrate production in the lowest-cost plants, and to 
operate them at the most efficient rates. In theory a cartel could do all these 
things, too, producing the cartel-determined output at minimum cost, pooling, 
the industry's profits, maximized in this fashion, and distributing them according 
to some formula among the cartel partners. 

But no cartel in history, regulated or unregulated, has to my knowledge ever 
done these things. The typical practice, instead, is to maintain price by imposing 
output quotas on the several members, efficient and inefficient alike. Indeed, 
where cartels have been in a position to make distim tions, they have regulated 
production more often by cutting back the output of the lowest-cost producers 
than the other way around, in order to leave room in the market for the higher- 
cost firms, whom competition would otherwise have driven out of business. The 
result has been gross inefficiency in production. We have had the abundant ex- 
amples of this phenomenon among regulated cartels. Parity price supports in 
agriculture were accompanied by the imposition of acreage limitations across the 
board. In petroleum prorationing, production allowables were cut back, at their 
lowest point, to eight days a month for the typically highest-volume and lowest- 
cost wells, while exempted from all such restraints were the highest-cost, low- 
volume marginal or stripper wells, and deeper wells were typically granted larger 
production quotas than shallow wells, precisely because they were higher-cost ! 
And in transportation, the Interstate Commerce Commission has placed limita- 
tions on the ability of railroads, by cutting rates, to reach out for traffic that 
they were in a position to serve at lower incremental costs than competing 
trucks or barges. 

Moreover, cartels have been typically incapable of imposing full controls on 
investment and entry. By holding prices at non-competitive levels, instead, they 
have tended to encourage new competitive entry, particularly, in areas outside 
their control ; and where they have succeeded in restricting entry, they have 
typically been incompletely successful in restricting the making of additional in- 
vestments by firms already in the market — for example, the drilling of grossly 
excessive numbers of developmental wells in the oil industry, in quest of addi- 
tional production quotas. Maintaining prices in the face of these artifically 
stimulated increases in production capacity has in turn necessitated further cut- 
backs in output quotas, foi'cing producers in turn to operate at even more grossly 
suboptimal levels, with correspondingly higher co.sts, and further preventing the 
distribution of the business to the lowest-co.st suppliers. In these important ways, 
cartels foster inefficiencies far more gross than either single-firm monopoly or 
unregulated competition. 

The resulting inefficiencies are in no sense purely theoretical. The wastes in 
tran.sportation, for example, have been estimated as running to billions of dollars 
annually ; and the wastes of excessive developmental oil well drilling in the 
late 1950's and early 1960's in this country were estimated by knowledgeable 
industry sources as running on the order of $V2 billion a year. 

Second, and for exactly the same reason, cartels promote waste in another 
way that is particularly pertinent to the airline industry, by encouraging ex- 
cessive non-price competition or service rivalry. 

Perhaps the simplest way of explaining this is to set forth the economics that 
underlie both of these two tendencies toward inefficiency. I will do so in the form 
of a series of propositions, but then I will give you enough illustrations to demon- 
strate that I am talking about the real world. If regulation limits competition, 
it must be because some competition would otherwise be feasible : the ability and 
will to compete are therefore present. And if the regulation is effective, it will 
hold price above the costs of at least some producers or potential producers. I 
have already described how this sets up persistent temptations for firms already 
inside the cartel to expand their capacity and output, and for firms outside the 
market, and possibly outside tlie boundaries of the cartel, to enter, increasing 
the aggregate capacity hanging over the market and creating the necessity for 



97 

progressive cutbacks of output quotas if the price is to be sustained. These 
temptations cease only when output is so curtailed, and unit costs of production 
so increased, by the production cutbacks that entry and investment in new 
capacity are no longer attractive. 

For exactly the same reasons, controls over price competition are subject to 
evasion because of the incentive they provide for accentuated quality and service 
rivalry, limited only by the ingenuity of businessmen in seeking new methods of 
enticing customers to them at the attractive, cartel-sustained price levels. Denied 
the opportunity to compete by reducing price, they are induced instead to compete 
for business in other ways that increase costs. 

The point is that if competition is sufficiently strong potentially to drive price 
down to cost — and that is the reason for the regulatory restraints being imposed 
on competition in tlie first place — it will also ordinarily be sufficiently strong to 
induce supplers, confronting a price above costs, to seek other, non-price methods 
of producing additional sales. 

Please observe carefully the general principle ; it is an important one : If regu- 
lation or cartelization prevent price from falling to costs, then, to the extent that 
competition continues to prevail, it will tend to raise cost to the level of price. 

This tendency toward accentuated non-price competition is of course not con- 
fined to the regulated or cartelized industries. On the contrary, and for similar 
reasons, it tends to take place also in non-regulated industries tliat are sufficiently 
concentrated to avoid price competition — witness, for example, the practice of 
frequent and often functionally meaningless but nevertheless cost-inflating model 
changes in automobiles and appliances, and the heavy expenditures on adver- 
tising and other forms of product differentiation across a wide spectrum of 
oligopolistic industries. 

But there are striking examples in the regulated sector. The Interstate Com- 
merce Commission is not permitted, under the Motor Carriers Act, to place limi- 
tations on the amount of equipment and facilities or the schedules put into effect 
by certificated tru.kers; but it does restrict the entry of common carriers, and 
it does control prices. The consequence is a tendency, well-documented in the 
literature, for regulated trucking companies to compete by offering greater 
frequency of service, at the cost of lower average utilization of capacity. 

Similarly, the maintenance of non-competitive brokerage commission rates by 
the New York Stock Exchange has encouraged brokers to engage in cost-inflating 
methods of service competition — the payment of large commissions to salesmen, 
and the offering of costly customer services in the form of free advice and re- 
search, in addition to the basic service, which is the consummation of trans- 
actions in securities. 

In the airline industry, the requisite cartelization is achieved by the CAB 
restrictions on competitive entry, the resultant fewness of competing firms along 
particular routes, and the rather consistent discouragement of competitive rate 
reductions and special, promotional rates by the Civil Aeronautics Board, 
domestically, and by the International Air Transport Association. As a result, 
as anyone can observe, the airline companies compete very strenuously, instead, 
in adopting the most modern and attractive eq,uipment, in the frequency with 
which they schedule fiights, in advertising, and in providing comfort, attractive 
hostesses, in-flight entertainment, food and drink. 

In turn — reflecting an almost inevitable tendency for regulation to become 
ever more thorough and pervasive in structurally competitive situations, because 
of tlie necessity for controlling whatever new forms of rivalry ingenious com- 
petitors and potentail competitors devise — the CAB and the lATA have been 
forced to try to control this service rivalry as well. Price regulation alone is 
obviou.sly meaningless, if quality of service goes unregulated. In the more mono- 
polistic, traditional public utility industries, where regulation has had the prin- 
cipal purpose of holding prices and profits down, commissions have found it 
essential to regulate quality of service as well as price : the consumer can be 
just as effectively exploited by deteriorations in the former as by increases in 
the latter. So, in these more structurally comi^titive markets, where regulation 
has been introduced principally to prevent competition from driving price down, 
commissions have had to recognize that the service competition that pushes 
costs up can be almost as "destructive" as unrestricted price rivalry — witness, 
for example, the disastrous impact of competitive scheduling of flights on air- 
line load factors, costs and profits. 



51-146 O - 76 - pt. 



And so we have had the unedifying experience of the CAB and lATA imjwsing 
restrictions on the provision of free drinks, the size ana sumptuousuess of meals, 
the amount of space between seats, authorizing concerted reductions in the 
scheduling of flights, and requiring a uniform supplementary charge for in-flight 
motion pictures. 

One particularly troublesome way in which the government-imi)osed restric- 
tions on price competition have encouraged cost-inflation in this industry has 
been the general refusal of the CAB to permit carriers with older, inferior 
equipment to set substantially lower rates in order to preserve their market 
shares in the face of the introduction of newer equipment. Since, when the 
prices are equal, the customer will obviously prefer the faster and more com- 
modious jet to the slower piston aircraft, the refusal of the Board to permit a 
substantially lower fare for the latter created an irresistible temptation on the 
part of carriers to scrap the older equipment and introduce the newer as rapidly 
as possible, as Professor Richard Caves has pointed out. And this has indeed 
been a conscious policy of the Board, in keeping with its statutory mandate to 
promote the utilization of airline transportation. 

This last example clearly invites the obvious question : what is wrong with 
service rivalry of this kind? Isn't it desirable to encourage airlines to shift 
rapidly to newer, faster and more attractive equipment? Doesn't more frequent 
scheduling mean better service, because it means a traveler has a correspondingly 
greater certainty of being able to get a flight at any time that he wants it? 
What is wrong with having a financially healthy security brokerage business, 
enabled by the restrictions on price competition to provide investors with the 
benefits of research and advice, at no extra charge, and providing brokerage 
service in small and remote localities where it might otherwise be unprofitable? 
Effective competition surely does require constant efforts at product and service 
quality improvement. 

The only answer an economist can give is that the proper balance between 
service and price rivalry can only be determined, in a market economy, by sub- 
jecting the alternatives to a market test. The proper prescription is to give 
consumers the opportunity to choose between the two alternatives, the faster jet 
aircraft at a price reflecting the higher cost of its introduction, and the slower 
but still serviceable piston aircraft, at whatever rates down to operating costs 
are necessary to keep them utilized as well. This does not mean that old equip- 
ment should not at some point be scrapped. But so long as customers will 
patronize it at rates that exceed the variable costs of operating it, it continues 
to have economic value as well as physical serviceability ; and any policy that 
prevents dropping that price down toward variable costs, and thereby provides 
customers no incentive to keep using the old, promotes premature and wasteful 
scrapping, and correspondingly wastefuUy rapid introduction of the new. 

The only way of testing whether the increment in service quality consequent 
on more intensive scheduling is worth the higher cost it entails is to offer shippers 
or travelers the choice between lower rates and less frequent operations, on the 
one hand, and the high rates required to cover the costs of more frequent sched- 
uling, on the other. The same is true of flights that on the one hand provide 
minimum leg room, and no food, drink, or entertainment, and sumptuous flights, 
on the other, and as many quality combinations as feasible between these two 
extremes, all at prices reflecting the respective costs of providing them. 

Similarly for the security brokers : only if investors are offered the choice 
between the barebones service of consummating security purchases and sales, at 
a price corresponding to the cost of doing just that, on the one hand, and, on the 
other, the execution of orders plus salesmanship, plus advice, plus research will the 
market provide the economically optimum quantity of both. So long as the 
customer pays the same price for both of these packages, there will be an in- 
herent tendency to wasteful and cost-inflating service rivalry. And that, it clearly 
appears, is what has happened in the airline industry. 

The objection is not necessarily that airlines have been forced by their com- 
petition fo inrnr creater costs for denser schedules, more advertising, meals, and 
in-flight entertainment than they would if they were able to get together and 
restrict such expenditures. Tlie ob.iection i«, rather, that these cost-inflating 
service improvements have not been subjected to the test of having to compete 
with lower-cost lower-price alternatives. The defect, in short, has not been the 
.service competition, as such, but the inadequate play of price competition along 
with it. In point of historical fact, the airline industr.v — as well as trucking, and 
the security brokerage business — offers numerous evidences that price competi- 



tion will, if given a chance, hold service inflation in check. Witness the popular- 
ity of the more Spartan non-scheduled passenger service, the desertion of regular 
security brokers by large investors, and the wholesale desertion by shippers 
from common carrier to private trucking wherever they had the opportunity 
to do so. 

In these circumstances, the attempts of the regulators to limit service rivalry 
are entirely logical. But that still has the effect of limiting the range of cus- 
tomer choices. And it inescapably rai.«es the question of whether it would not be 
preferable simply to abandon economic regulation plus cartelization in favor of 
the freer play of price competition. 



Senator Kexnkdy. Our final witness is Dr. George James, senior 
vice president of economics and finance, Air Transport Association. 
He has spent much time analyzing economic trends and problems of 
the association, problems on behavior of the member airlines, and di- 
recting the operations of the Economic Finance Council. Dr. James is 
a member of f he Conference of Business and American Economic Asso- 
ciation, university guest lecturer and currently serves on the Doctorial 
Dissertation Association of American University. 

We are glad to have you. 

STATEMENT OF DR. GEORGE W. JAMES, SENIOR VICE PRESIDENT 
OF ECONOMICS AND FINANCE, AIR TRANSPORT ASSOCIATION OF 
AMERICA, ACCOMPANIED BY JAMES LANDRY AND GABRIEL 
PHILLIPS 

Dr. James. Thank you, Mr. Chairman. 

I am accompanied by Mr. James Landry and Mr. Gabriel Phillips. 

I have submitted a lengthy statement which I will not read, but I 
do have a summary which I will read but I request the more lengthy 
testimony be included in the record. 

Senator Kennedy. It will be included in the record. 

Dr. James. I find it enlightening to hear the testimony we have just 
heard from Professor Kahn. I have many smart friends who have 
been educated under Professor Kahn. 

I must say, however, that after listening to what I heard this morn- 
ing from all of the other witnesses that I have never been exposed to 
such incorrect economics in the airline industry except 9 years ago 
when I first came into the business myself. I think it is terribly impor- 
tant to have the exposure to the industry and understanding of it 
before you can really understand the practical implications of some of 
the proposals that have been made and to have a more full understand- 
ing of why so many of our witnesses are stumbling on questions that 
you are asking on what the effects of deregulation would be. 

Well, as you stated on December 16, Senator Kennedy, the basic 
objective of airline regulation is adequate service at reasonable prices. 
We believe airline regulation has met that test. Nevertheless, we be- 
lieve that consideration by this subcommittee and others of the issue of 
regulatory reform presents opportunities not only for thorough review 
of the existing structure and procedures, but more important, for 
seekmg improvements in regulation. These improvements can lead to 
an even more effective and responsive public air transportation system. 



100 

The more extensive statement we have submitted to this subcom- 
mittee, under separate cover, deals with the concept of re^ilated com- 
petition in air transportation, with the objectives we understand are 
sought through regulatory reform investigations, with the achieve- 
ments of regTilated competition in the air transportation industry since 
1938, and with the likely adverse impacts of many of the concepts of 
regulatory reform that are being proposed. Our statement also makes 
recommendations for some improvements in present air transport 
regulation. 

I would noAv like to summarize the principal points made in our 
statement. 

ADVANTAGES OF REGULATED COMPETITION 

The system of air transportation, since its inception as an effective 
force in the American economy in 1938, has been founded on the prin- 
ciple of regulated competition. This has been necessary because of the 
special position of public transportation in the economy. In the spec- 
trum of economic activity, from a natural monopoly to perfect compe- 
tition, transportation falls in between. 

It is unlike specific public utilities in which embedded costs are im- 
mense and therefore economies of scale are apparent. But because of 
the need and value of providing a public service to a vast interlinking 
network of cities and communities, air transportation cannot be placed 
in the so-called perfect or workable competitive environment either. 
Further, it has characteristics that under deregulation would quickly 
lead to a high degree of concentration. These characteristics include 
the complexity of aircraft operations, the increasing expense of indi- 
vidual aircraft, the need for extensive maintenance facilities, and the 
fact that an inordinately high percentage of the passenger markets are 
between points of low traffic density. 

The present national air transportation system is characterized by 
stability, speed, reliability, and above all a vast network of the inter- 
locking air routes involving 58,000 city-pairs. Its value to the Nation 
and to the public is derived from all of these essential features which 
would be seriously <!ompromised, if not lost, through deregulation. 

We believe it is essential that in the deliberations today, and in 
those which will follow, special care should be taken to ensure that 
it is the real world of air transportation which is the subject of 
scrutiny. Hypothetical models alone — based as they are, not on the 
actual demonstrated needs of the traveling and shipping public, but 
rather on theories applicable only in an insulated theoretical environ- 
ment — may be helpful as a guide to thinking. But their application 
beyond the classroom or the textbook must be carefully considered in 
the light of existing, real circumstances. 

Senator Kennedy. How do you say that ; what is the basis of that 
statement ? 

Dr. James. I do not be-ieve anybody was recognizing that we have 
58,000 city-pairs, a stable environment in which that system is now 
operating, that we have met the test of keeping prices down, that we 
have a system built in through the Civil Aeronautics Board now in 
which the consumer interests are being represented and the prices 
that we might seek are being penalized by the fact that we may not 
be meeting certain of those standards, and many other points that I 



101 

will bring out in my testimony in answer to your question in a 
moment. 

Senator Kennedy. Why would not the Department of Transporta- 
tion understand that ? 

POTENTIAL ABANDONMENT OF SMALL TOWN SERVICE (CROSS-SUBSIDY) 

Dr. James, The Department of Transportation, through the sub- 
missions they made and the Domestic Passenger Fare Investigation, 
was not taking as what I would consider a practical position regarding 
load factors, load factor standards, and the realities of service to this 
58,000 network that we now serve. The implications contained in 
many of the submissions they made would have the load factors and 
load factor standards beginning abnormally high, and the only way 
to accomplish this would be to cut out service to many. of the com- 
munities now serviced, thousands of them, as a matter of fact. 

Senator Kennedy. Can you submit a list of which ones that would 
be? 

Dr. James. Of the communities ? 

Senator Kennedy. Yes. 

Dr. James. We can attempt to do that, Senator, That is a com- 
puterized answer that we would have to develop, and would involve 
millions of calculations. It is a difficult thing to obtain, and we would 
have to obtain it. 

Senator Kennedy. How can you be sure that you know and the 
Department of Transportation does not know ? 

Dr. James. I know the size of the problem and that is what we are 
attempting to define. 

Senator Kennedy. I have asked you for specific testimony since you 
have discredited the witnesses, saying they were speaking through their 
hat. That is a gracious way of putting it. Then, I asked you the basis 
of it and you say they do not understand this particular problem. I ask 
you the basis for your information and you say you have not got it. 
"You supply it and I will ask the Department of Transportation to do 
the same thing. Let the record speak for itself, 

Dr, James. Let me put it this way. Senator. What we have is aggre- 
gate information, and what you are asking for is detailed information. 
The aggregate information (s that if we Avere to attempt to get to a 65- 
percent load factor today we would have to cut 25 percent off of these 
58,000 city-pairs. I understand your question to be which of the 58,000 
would be cut. 

Senator Kennedy. That is right. 

Dr. James. We have nothing that far. We have gone as far as to say 
one-fourth of them would be cut. I do not believe the Department of 
Transportation has thought of it in those terms, sir. 

Senator Kennedy. Well, I will ask them the same question, to submit 
information, as I am asking you, so if you can supply information on 
that and be as specific as possible I wiU ask them the same question. 

[In a letter dated February 7, 1975, the chairman of the subcommittee 
made more explicit his request of Dr. James for a list of routes t:hat 
would be eliminated under the conditions discussed above. On April 3, 
1975, the Air Transport Association submitted its reply which totaled 
more than 200 pages. The chairman then requested independent eval- 



102 

uations of this ATA study from five leading economists and several 
Government agencies. The ATA study and the evaluations, together 
with relevant correspondence, are printed at the end of Dr. James' pre- 
pared statement following his testimony of this day, p. 189 ff., below.] 
Senator Kennedy. Let us continue. 

RELATIVE DECREASE IN AIR FARES SINCE 19 38 

Dr. James. The objectives sought by the theorists or the critics of 
the present system have been accomplished in a regulated competitive 
environment. Those who have found fault with the regulatory environ- 
ment in which air transportation now operates seek to achieve a lauda- 
tory goal : air transportation service at minimum and cost-based prices, 
providing a maximum efficient quality of service. We believe we have 
accomplished that goal. 

Today average scheduled airline passenger fares, in 1938 dollars, are 
64 percent less than 37 years ago, when Congress passed the Civil 
Aeronautics Act. Moreover, if one wishes to switch to current dollar 
comparisons, from 1948 to 1974 the air fare between New York and 
San Francisco rose 21 percent. At the same time the price of a pound 
of roundsteak increased 100 percent, a pair of men's shoes 120 percent, 
a Chevrolet automobile 220 percent, and, though perhaps not com- 
monly purchased, a year's tuition at Harvard over 640 percent. 

Air freight rates have similarly experienced a decline relative to 
costs of all U.S. goods and services in the period 1946-1974. 

Senator Kennedy. With all due respect, what has that possibly got 
to do with it? Television has gone down, the cost of radio has gone 
down, wristwatches have gone down. So what sense does that particular 
comment make — how does that prove your thesis ? I can give as many 
examples as you have given that have gone the other way. I am not an 
expert in this, but 

Dr. James. The only point I am making, Senator, for every one you 
can give I can give one above the average. We are standing with a 
small group of services and products which have actually declined 
in this time period. We are 64 percent below the average, so obviously 
there are larger numbers that have gone up than have gone down rela- 
tive to our performance. 

Senator Kennedy. Maybe that is convincing to some people, but 
what we do not know without competition is how much further it 
would have gone down. I would think that would have been the im- 
portant question. If this is satisfactory to you as an explanation we 
will be glad to receive it. 

Dr. James. We also can compare ourselves with consumer price 
index and the wholesale price index, and we will have outperformed 
those. 

REGULATED AND UNREGULATED FARES COMPARED 

Senator Kennedy. I do not suppose you could mention that the PSA 
has gone down further than you have, or Texas, so therefore they 
demonstrate 

Dr. James. Senator, I think PSA would be delighted to say that, 
but they cannot. From 1967-1973 their i^rices went up 23 percent. 
Ours went up 17 percent. Since 1973, PSA has increased their prices 
25 percent and is applying for 10.5 percent more. Since 1973, our gen- 



eral fares are up 15 percent. Our price record against PSA is very 
competitive and we beat them. 

Senator Kennedy. Which makes the point that competition does 
not make much 

Dr. James. They are probably within a i^-cent yield away 
i'rom our average, and we have three or four fares that we offer today 
that are less than what PSA offers on a yield basis. 

Senator Kennedy. Well, the fares, as I understand, are close to half 
the price. 

Dr. James. They are not, sir. Their yields are close to 6 cents a mile 
and ours are running close to 7 cents a mile, including the charges 
that have just been made. 

Senator Kennedy. Well, give me, just to clarify for a layman, what 
the fare is from San Francisco to Los Angeles for CAB regulated 
and then the PSA. 

Dr. James. Well, I see the frame of reference in which you are 
speaking. 

Senator Kennedy. Can you answer that question for me ? 

Dr. James. I have the airline guide here and I can probably pull out 
that fare for you, if you wish. 

Senator Kennedy. OK. 

Dr. James. The yields I am quoting to you are the average of all of 
our fares against PSA. If you would like I would also like to elaborate 
on that in a moment as to the differences of the kind of service that 
PSA is offering and the different cost against our own carriers. I can 
do that if you wish while we are attempting to find 

Senator Kennedy. The point that I was making is, I did not under- 
stand the relevancy of the increase in Harvard's tuition, and then we 
got diverted on this other situation, so whatever you like, we will just 
put those in the record and you can continue. 

Dr. James. Senator, there is a specti-um of fares on that route be- 
tween Los Angeles and San Francisco. PSA, for example, has a fare 
$20.25. TWA has a fare for $19.50. Air West has a fare for $18.37, 
Continental $17. 

Senator Kennedy. Are those the intrastate passengers ? 

Dr. James. Between Los Angeles and San Francisco, yes. 

Senator Kennedy. Those are traveling intrastate, right ? 

Dr. James. Yes. 

Senator Kennedy. Say someone took a plane from Boston, San 
Francisco, Los Angeles, what would be the cost of the San Francisco- 
Los Angeles rates ? 

Dr. James. Those would be larger. 

Senator Kennedy. Give me those. 

Dr. James. I will submit that for the record later. I do not have it 
with me at this time. 

Senator Kennedy. Well, it must be in the airline guide. You are the 
experts on it. 

You can continue in your testimony. 

Dr. James. All right, sir. 

Senator Kennedy. Counsel informs me that it is $38.89. 

Dr. James. The airline offers the public a wide range of available 
fares, and extensive use has been made of these. For the year ending 
Sej^tember 1974, for example, use of lower than full fares accounted 



104 

for almost one-third of all coach revenue passenger miles flown. Be- 
ginning this month another broad based discount fare has been intro- 
duced which will provide an attractive bridge between charter and 
regular fares. 

The spectrum of fares that we offer has been used extensively by low 
income groups in the United States. Last year one of every seven 
adults making less than $7,000 annually flew on a scheduled airline. 
Overall, 18 percent of all adults taking one or more trips by air made 
less than $7,000. This pricing performance, at an adequate level of 
service, either in the long run or in the short run, could not have been 
matched by pricing in a deregulated environment. In fact, in the long 
run, as evidenced by the pricng performance of the U.S. economy as a 
whole, deregulation of the air transport industry would have placed 
prices and fares at a much higher level than now exists. 

Senator Kennedy. Why is that ? 

Dr. James. Basing that on the pricing performance of the U.S. 
economy as a whole, which was much higher in constant dollars in 
1938 than our own performance, which was 64 percent less. 

THE domestic PASSENGER FARE INVESTIGATION 

More recently, we believe that the Civil Aeronautics Board has 
taken precedent-setting steps, througli the results of its Domestic Pas- 
senger Fare Investigation, to assure that the airline industry operates 
at standards of efficiency responsive to consumer interests. The initia- 
tion of this investigation came from Members of Congress in late 1969. 
The investigation began in January 1970, and that portion of it cover- 
ing fare level rate of return procedures produced its first results in 
May 1973. 

The resulting CAB standards of efficiency assure that no automatic 
fare increase is charged to consumers for so-called industry cost mis- 
takes of purchasing excess equipment, of misestimating a market and 
hauling too few people, or for giving away business through discount- 
ing. The CAB standards of efficiency adjust for all of these, and no 
fare change is made until these adjustments have been made. Each 
fare increase granted to the industry since 1973, including the 4 per- 
cent increase granted last November, has been based on meeting these 
standards. 

These CAB fare level procedures, resulting from open public hear- 
ings, are not arbitrary, were not developed from clandestine meetings, 
and have a clear and comprehensive public interest platform built in. 
Yet the opposite and misleading impression is often given by critics as 
an emotional appeal to consumers. As we have shown, in fact, it is the 
consumer who is the primary beneficiary of these procedures. 

Let us turn our attention to the question of load factors, a concept 
grossly misunderstood and misused. Continually our industry is told 
two things : ( 1 ) we are not providing adequate levels of service, and (2) 
our load factors should be higher. For our industry these objectives 
are contradictory. 

I believe I can make my point by referring to the statement that 
Senator Kennedy made on the Senate floor on December 16, where he 
referred to the difficulty a student in Boston might experience in re- 
turning to his home in Detroit because of a lack of available seats on 
that route. Keeping in mind that the Civil Aeronautics Board's 



105 

domestic passenger fare investigation established the load factor 
standard at 55 percent in 1974, the average load factor in the Boston- 
Detroit market was 59 percent. Senator Kennedy has cited an ex- 
ample of possible inadequate service at a load factor of 59 percent. To 
aA'erage 59 percent, the Boston-Detroit market shows a monthly load 
factor range of 52-67 percent thus further demonstrating the season- 
ality of our markets. 

Senator Kennedy. You missed the point completely, because I was 
not really talking about the load factor there, I was talking about the 
competition that existed in that particular route and pointing out that 
there was only one carrier traveling that route. There was another 
one that offered to provide better service and, because the Board had 
refused to have a hearing, was unable to do so. That is the point that 
was made. I think it is still a valid one. If you want to draw some kind 
of reference to the load factor as being the purpose of that comment, 
then I am glad to clarify that for you at the present time, but that 
certainly was not the point being made. There is another carrier who 
wanted to get in, offered more frequent and better service, was never 
granted a hearing and that opportunity is not available to that young 
person. If you want to argue with that point I will be glad to hear you. 

Dr. James. You Avere citing in your statement. Senator, that the 
students, for example, between Boston and Detroit would be unable 
to get on flights between certain periods of time because of lack of 
service and the refusal of the Board to add additional capacity. 

My point is that here is a situation where apparently there was 
insufficient capacity and yet there was a 59 percent load factor. 

Senator Kennedy. How many carriers are there in that group? 

Dr. James. I am not aware. 

Senator Kennedy. Oh, now, you know how many carriers there 
are. Ask your associates. There is one carrier, one non-stop carrier. 

Dr. James. There are lots of ways of getting between Boston and 
Detroit, if you are talking nonstop, then there is one carrier. 

Senator Kennedy. That is right. OK. 

SMALL TOWN SERVICE (CROSS -SUBSIDY) 

Dr. James. What is commonly overlooked by observers of the sched- 
uled air transport system system is that 30 percent of our domestic 
traffic is produced by only 70 larger city-pair markets; another 40 
percent is derived from an additional 840 markets; and the final 30 
percent is produced in some 57,000^maller markets. Yet, these smaller 
markets are an integral part of the system and their loss would seri- 
ouslv damage the adequacy of public air transport service, as well as 
invoking a severe cost to the national economy. 

For example, out of a passenger load of 85 on a typical flight from 
Denver to Chicago, over three-fourths do not originate in Denver. They 
are coming from Pueblo, Colo. ; Cheyenne, Wyo. ; Great Falls, Mont. ; 
Sacramento, Fresno, and San Jose, Calif. ; and other cities in the West. 
If this feeder system were tampered with, the primary market would 
also became less profitable. As a result, it would receive less service, 
and the remaining smaller feeder markets woidd also receive less in- 
direct service. 

Senntor Kennedy. Well, how can you say that? I would be inter- 
ested in your printouts on that particular fact. I just know that with 



106 

regard to my part of the country, Air New England provides many 
more opportunities for the trunk carriers and the scheduled line car- 
riers to move people than when the major scheduled carriers were 
traveling down into southern Massachusetts and to other parts of the 
State. 

Dr. James. My example would be that the analogy that Air New 
England, for example, is feeding into Boston, Boston is a major hub 
serving to Los Angeles or San Francisco. Flights out of Boston are 
fed by many of the feeders in the New England area. The profitability 
of those hub routes depends to a large extent on the feeder routes 
coming into Boston. 

I cite an example later in the testimony concerning a flight coming 
from the West, Fresno on through Denver and Chicago on which 1 
have specific figures which I believe may illustrate the point you are 
looking for. 

Senator Kennedy. What is the point here ? 

Dr. James. If you tamper with this system that you will begin to 
close it in on the periphery, that is the feeder points would be the ones 
that would begin to shut down. As they were shut down it would 
also have an effect on the hub. Hub service would be less, and what 
you are doing, because it is a concentrated industry, is that you are 
going to end up with only a few markets served by fewer carriers and 
the air transport service will be seriously compromised. 

Senator Kennedy. Well, that has not been the experience in my 
State. You may be able to document it in other parts. I dare say that 
would not hold up in New England. I dare say it would not in Cali- 
fornia. There may be other parts of the country that it would. 

I would be interested in what information you have to show that this 
has been the situation in any of the places where there has been a reduc- 
tion of scheduled flights, because it certainly has not been the case in 
Boston or Massachusetts. 

Dr. James. Well, I do not know that we can demonstrate what the 
impact would be fully from our standpoint or the standpoint of those, 
for example, that testified this morning. 

Senator Kennedy. Well, then, how can you make your statements 
with such assurance ? 

Dr. James. Let me make this point first, if I may. 

The point I was leading up to is that we do not have the experience in 
this country of shutting down the air transport, systems to fully under- 
stand what the impact would be in these outlying districts. We have to 
rely on the evidence we now have that shows the amount of feed that 
goes into a hub and the importance of that feed to the more profitable 
routes that continue beyond and assume, then, that if you were to de- 
regulate the low density routes would be the ones in which service 
would first be dropped, and as it is dropped then the public trpnsnorta- 
tion network begins to be compromised and there is a chain reaction 
all the way through to the main levels of the hubs in which service is 
dropped there. 

Senator Kenne'dy. I think the best opportunity would be to look to 
places that had certificated carriers which dropped feeder service into 
these hub areas. One of the clearest examples is my own area, where 
Northeast was able to drop certain of these routes, and after it was 
merged with Delta, virtually all of them were dropped. 



107 

I dare say the smaller lines have provided a much greater degree of 
service to the public, and I dare say, and I will be glad to look at the 
statistics, that there is more service feeding into the major scheduled 
airlines now than when the certificated carriers were flying the DC-8's 
at 1 o'clock in the morning in order to meet with CAB requirements. 
We have seen how Northeast used to fly down at the most inopportune 
time in the world, and would be down here 4 or 5 months later saying 
look, this is all the number of people traveling on it, and trying to get 
permission to drop it. We saw instance after instance in which they 
were permitted to drop service. Now we have been able to see the devel- 
opment of a variety of different carriers ser\dng this area — from Bos- 
ton all the way up the coast of Maine and New Hampshire and Ver- 
mont, and we find a much more efficient and effective service, and 
I dare say the numbers would show they are bringing many more 
people into the major market areas. 

If you are goin^ to make a statement categorically that deregulation 
would mean inferior service, this is a statement that I think ought to be 
supported with at least some kind of figures or documentation showing 
places where that has been the case in the past. If you have some we 
would welcome it. 

Dr. James. Senator, I do not believe the analogy you make neces- 
sarily holds, because the service that you now have in the New England 
area is still a scheduled certificated service. For example, the recent 
certificating of Air New England as a regional carrier. 

Senator Kennedy. Do you know when Air New England was 
certificated ? 

Dr. James. Well, just within the last month. 

Senator Kennedy. We have been flying it for the last 2i/2 years. So 
we can use the figures before it was certificated if you want. I do not 
want to debate this point. 

Dr. James. Perhaps your service is well improved. 

Senator Kennedy. I have been very satisfied with it. If they can 
improve it, I am delighted. 

We Avill continue. If you have any figures or statistics or studies on 
this particular point we would welcome them, because obviously the 
DOT has presented a statement. We will ask them for their data as 
well, and if you have some we would like a chance to examine it. You 
must have reviewed this, and we would like to take a look at it. 

[In a letter dated February 7, 1975, the chairman of the subcommit- 
tee made more explicit his request of Dr. James for a list of routes that 
would be eliminated under the conditions discussed above. On April 3, 
1975, the Air Transport Association submitted its reply which totaled 
more than 200 pages. The chairman then requested independent evalu- 
ations of this ATA study from five leading economists and several 
Government agencies. The ATA study and the evaluations, together 
with relevant correspondence, are printed at the end of Dr. James' 
prepared statement following his testimony of this day, p. 139 ff. 
below.] 

Dr. James. Fine. 

the interline network of airlines 

Some claim that, if the present system were deregulated and present 
carriers elected to leave the smaller markets, commuter carriers or 
forms of ground transportation would be adequate substitutes. Data 



108 

developed by Dr. Gary Fromm, formerly of Data Resources, Inc., 
would indicate differently. The value of an hour's time to an air 
traveler is approximately $10.50. Taking into account the slower tinies 
for accomplishing the same trip by rail, bus, auto or lower speed air- 
craft, the cost to individuals and therefore to the economy could 
approach billions of dollars. 

The replacement of many of these markets by smaller earner opera- 
tions would be a hazardous one. For example, in 1972, of all U.S. 
cities receiving scheduled passenger commuter service, 74, or 17 per- 
cent were abandoned 1 year later and service was added to another 
104. Thus, in that time period 178 cities experienced a change in 
scheduled commuter service— roughly one-third of all cities receiving 
such service. 

The present air transport system represents a wholly integrated net- 
work of scheduling, connections, interlining, and routing among and 
between carriers serving cities of varying size and geographic prox- 
imity to each other. A glance at the Official Airline Guide (which 
contains the schedules for the entire air transport network) provides 
dramatic evidence of this point. For example, the OAG (North 
American edition) published on February 1, 1975, is 898 pages long. 
It depicts the schedules of every scheduled carrier in North America, 
to and from virtually every community served, with connections indi- 
cated. It is this network which would be jeopardized by drastically 
revising or dismantling the structure so carefully constructed over 
the last 37 years. 

The airline industry believes that the regulatory environment within 
which we operate has served the public interest well. We believe the 
results support that conclusion. 

However, in certain instances, airlines have opposed and continue 
to oppose the manner in which the regulatory process has been carried 
out. And we believe that certain areas of economic regulation of our 
industry do require increased attention. 

For example, the problem of regulatory lag is endemic to the regu- 
latory process throughout much of government. There are areas here 
where productive changes can be made. The proper requirement for 
full and complete industry reporting of economic, financial, and sta- 
tistical data need not result in duplicate and redundant effort on the 
part of the industry or the regulator. We believe reasonable cost- 
benefit analysis can be usefully applied to certain of these requirements. 

We also believe that the precedent-setting step of establishing per- 
formance and efficiency standards for the industry should be subject 
to regular scrutiny by the Board and amended when and as required 
in the public interest. These should be done, however, always keeping 
in mind the need for continuing understanding on the part of the 
public and the government of the real world economics of the air 
transport system. 

We also believe that the undertaking by the Civil Aeronautics Board 
of a comprehensive review of route developement policy is desirable. 
Careful consideration should be given to the view contained in an 
October 1974 report by the Board that : "* * * regulatory route and 
route-related policies should be directed to improving the efficiency 
and quality of the system, through careful expansion of route 



109 

authority when required by traffic, and through route rationalization." 

We are also in favor of selected changes in the tariff procedures. We 
would advocate extending the filing deadline for tariffs from 30 to 45 
days with Board decision required after 30 days. This process would 
provide 15 days advance public notice of tariff changes. A corollary of 
this would be the adoption of a simplified short -form tariff which 
would work to enhance public understanding of a given tariff change. 

In conclusion, the kinds of changes we feel are worthy of con- 
sideration are those which would tend to improve upon the present 
system, and not destroy it or affect its present high level of perform- 
ance. The legulated competitive environment of the air transport 
system has not only fulfilled all of the objectives of an unregulated 
environment and has been truly responsive to public service needs. 

The record of the air transport industry shows : (1) that we are not 
high priced; (2) we are consumer-responsive; (3) we offer a high 
quality of service; (4) we are innovative and have introduced a high 
degree of technology; and (5) we maintain an extensive network of 
public service. 

We believe that there is no way that a major overhaul of the regula- 
tory structure of air transportation, let alone deregulation, could 
improve on this record. 

Thank you, sir. 

I am open to additional questions, if you wish. 

FARE FLEXIBILITY 

Senator Kennedy. Mr. Beyer will ask some questions, but before 
we get to that, what was your reaction to some of the proposals made 
this morning by the DOT in terms of price flexibility, for example, 
that permit at least some — I think they talk about zone of flexibility. 

Dr. James. This is the zone of reasonableness ? 

Senator Kennedy. In terms of rates. 

Dr. James. Yes, sir. 

The carriers are divided. There will be carriers who might show 
some interest in that, many others who would not. I am not in a posi- 
tion to give a unified industry answer to it except to say that one does 
have to examine what the purpose would be. It is the purpose to 

Senator Kennedy. Well, I suppose the purpose is to permit some- 
body w^ho wants to fly, as I did last Thursday, from Washington to 
San Francisco, to go for $100 instead of $200. 

Dr. James. Yes, sir. We have introduced just this month the op- 
portunity for you and others who so wish to use it to fly at discount 
rates at those distances, and in effect we would view that as part of the 
zoning. 

Senator Kennedy. With regard to that point, you are generally ac- 
cepting that proposal that they mentioned there. As I understand from 
what you are saying now, you have no real problem with it. 

Dr. James. What I am saying at this point, Senator, is that in many 
ways the present practice is meeting the objective that you are seeking. 

Senator Kennedy. Well, if they do not — then, if it is meeting the ob- 
jective and you are saying that has all ready been done, then I under- 
stand you are in general support of it. You say that has already been 
done, it is not necessary 



110 

Dr. James. I am in general support of the wide variety of 
fares which the industry offers the public, which are in varying 
combinations. 

Senator Kennedy. If you say they are all ready doing it what is 
your reluctance to support it? I do not understand it. You say they 
are already doing it, you are in support if they are already doing it. 
You cannot have it both ways. 

Dr. James. I guess what I am really saying, Senator, is that if we 
are already doing it one way and accomplishing the objective a second 
way, why do it the second way ? 

Senator Kennedy. Well, then you are against jt ? 

Dr. James. I am not in a position to represent an industry view, sir. 

Senator Kennedy. What is your own personal view ? 

Dr. James. That we are already meeting a zone of reasonableness 
by the variety of fares that we are offering the public. 

Senator Kennedy. This is not different from your industry view? 

Dr. James. It is not different from our industry practice. The in- 
dustry view would be different from the industry practice, depending 
upon the spectrum of answers to the questionnaire that you have on 
this same subject. 

Senator Kennedy. That makes it very clear. 

freer route entry 

How about freer entry into the market area ? You say the admin- 
istration strongly supports liberalization of entry into the airline in- 
dustry and the proposal provides substantial entry and exit 
liberalization. 

Dr. James. Yes, we feel very strongly that if you had complete 
freedom of entry in these markets that only the larger more profitable 
markets would survive and only a few carriers would survive, and the 
value we now have in the total 58,000 city-pair markets would be 
destroyed, and it would not be too long until we find that our ability 
to get more — to get service between more than 70 to 200 pairs out of 
this 58,000 would be a reality. We would not be able to get more serv- 
ice than that. 

Senator Kennedy. Well, how do you respond to the points that were 
given this morniup; that, if some carriers diop by the wayside because 
they are poorly administered, they do so because they are inefficient? 
There are others that can run an airline better. "Why do they not hove 
the ability to come in and offer a price and service to the public 
that 

Dr. James. I simply do not accept the fact that we have as a group, 
a poorly managed airline. Between 1969 and 1974, we have reduced 
our employees 3i^ percent. At the same time we increased our volume 
of traffic, passengers hauled by 20 percent, passenger-miles by 30 
percent. 

Senator Kennedy. If they are doing such a good job what do they 
have to fear from anybody coming in ? 

Dr. James. The thing you have to fear is the loss of some 57,000 
city-pair services. 

Senator Kennedy. Why do you say that? You say they are all doing 
a complete job, are not overpriced, arc consumer responsive and innova- 



Ill 

tive and give extensive public service, so what should they have to 
fear ? It seems to me the people who have something to fear are the 
people who are sticking their neck out. 

JJr. James. Sir, I think it is the public, the Government that should 
have the fear, the fear that the public service to all of these city-pairs 
will be destroyed or effectively compromised. The surviving carriers 
in this should have nothing to fear, but there would be few of them 
serving very few markets. 

Senator Kennedy. At a lower price, I suppose ? 

Dr. James. Xot necessarily, because if you compare our price per- 
fonnance over the past 30 yeare, we are marketing better than the 
economy. That is, better in the sense that we are priced lower rela- 
tively to them. 

Senator Kennedy. We are back to the question of whether fares 
might not be even less if you had competition or free entry. 

It reminds me of the patient who had a temperature of 101 and his 
temperature was 98 one day and went up to 101 the next and 102 the 
next, and the doctor said you are getting better because you are getting 
sicker more slowly. 

How do you know if, with competition, you might not be doing 
better, even further below the national average ? 

Dr. James. I think my answer would be this. Could anyone say 
that we could do better — I do not think we could — but let us assume 
that we did, on 70 markets, and with two or three carriers, at the cost 
of serving the rest of the network that now exists. If they think we 
would improve then they are overlooking the cost, the cost to the public 
in particular. 

Senator Kennedy. We will never know, though, if we follow your 
position, because you Avould not permit or at least not encourage new 
entry of other carriers into the market. The way that I understand 
your answer is that nothing would b3 more disastrous for the whole 
traveling piiblic than if you opened it up to any kind of competition. 
If we follow your testimony, we will have no way of knowing, will we? 

Dr. James. I think in response to that question, it is well advised to 
keep in mind that those who advocate tliis, as they essentiaPy did this 
morning, were also in extreme wonderment as to just whether or not 
you could go through this transition and not effect the city service that 
we now have. Many questions were raised on their part as well. 

Senator Kennedy. 1 raised most of them. 

Dr. James. You did, and I appreciate that. 

CAB authority TO IMMUNIZE INTERCARRIER AGREEMENTS FROM THE 
ANTITRUST LAWS 

Senator Kennedy. What about the antitrust immunity? How do 
you stand on that ? 

Dr. James. I would like to refer, if I may, to our chief legal counsel, 
Mr. Landry. 

]Mr. Landry. Thank you, Mr. Chairman. 

If I could just add one comment to what Dr. James has been saying 
about the consequences of free entry as to what would hapj^en. As he 
has emphasized, you have 70 markets equalling the support from 
57,000 city-pairs. That fact reminds you of what Willie Sutton said 



112 

when they asked him why he robbed banks. He said tliat is where the 
money is. The entrants would go to the 70 markets, that is where the 
money is. 

Senator Kennedy. I hope there will be one between Boston and 
Washington. 

Mr. Landry. If I may get to the other question, the system under 
414, I believe it would be a mistake and a serious mistake from the 
consumer point of view to do away with the antitrust immunity, to do 
away with section 414. There is a tremendously integrated network with 
some 24 carriers serving this host of markets in which a number of 
efficiencies and cost savings are brought about through intercarrier 
agreements. Those agreements would not be formulated if the carriers 
were fearful of the very drastic consequences, particularly now under 
the new law, of the antitrust violations. 

I am not saying these agreements are worked out in smoke-filled 
back rooms or anything of that sort. They are worked out in the open, 
in front of the observers of the Civil Aeronautics Board, the Depart- 
ment of Justice, the Department of Transportation. I have had the 
privilege in the last week, for example, to play host to a very dramatic 
effort of carriers around the world to try to cope with the escalating 
price of fuel. Some 75 carriers have gathered together to see if they 
could formulate some joint actions that might bring the price of fuel 
down, to the benefit of the consumers. Those carriers held a giant 
meeting last week, observed from beginning to end by the Civil 
Aeronautics Board, DOT was present throughout, and the Depart- 
ment of Justice had the opportunity to be there. But in any event, 
any agreement that comes out of that will only go into effect if ap- 
proved by the Civil Aeronautics Board. Under the holding in the 
local cartage case, the CAB, if it sees anticompetitive effects, it is not 
going to approve any such agreement unless it positively and affirma- 
tively finds this the only way to meet a serious transportation need 
or to secure important public benefits. So, I think all in all this is 
very close scrutiny. And, the system is working. 

Senator Kennedy. Do they keep transcripts of those meetings? 

Mr. Landry. Minutes are being given to the Civil Aeronautics 
Board and they are public. And, they allow interested persons to come 
in and address the meetings. 

Senator Kennedy. Would you support keeping transcripts, as we 
do here in the Senate? 

Mr. Landry. In some cases they have transcripts. 

Senator Kennedy. Can you see any reason why they should not keep 
transcripts? You just talked about how open the meeting was. Do 
you have any reason why transcripts should not be kept? 

Mr. Landry. In this case — if transcripts were made available to the 
oil companies. I imagine that the dinlog would not be quite as free 
as it would be absent such a transcript. But full minutes are being 
submitted to the CAB today, as a matter of fact. 

Senator Kennedy. You really cannot have it both ways. I think up 
to this year the Congress was one of the biggest offenders. We have 
executive sessions from which the public was excluded, and conferences 
with the House of Eepresentatives in most instances were closed. That 
has gone on for some time. It was generally felt that if we opened up 
these meetings, either the Members themselves would be fighting a 



113 

losing battle in front of the press and the various kinds of interested 
groups, or that there would be a distortion of the legislative process. 
But it has been demonstrated, and I think quite effectively, that this is 
not the case in the number of committees which have held the open 
executive sessions in considering extremely important matters of 
policy. 

I am just wondering why we should not have these airline meetings 
open, or maintain transcripts ; what reluctance you would have to 

Mr. Landry. Mr. Chairman, I think in this particular set of discus- 
sions that I am talking about, I think, it is unique in not having them 
open with a transcript. 

Senator Kennedy. Do you think they should be open with tran- 
scripts unless there is going to be a vote taken by participants to close 
it? 

Mr. Landry. No ; I believe that the discussions, for example, capacity 
discussions and so forth, have had consumer groups represented 
throughout the discussions. I believe they have been fully open to 
members of the general public and have been held in that kind of gold- 
fish bowl without any adverse consequences. 

Senator Kennedy. Come on, do you favor keeping transcripts, or do 
you not ? 

Mr. Landry. There were transcripts, I believe, of those capacity dis- 
cussions and any discussions of that nature. So I say about 90 percent 
of the time 

Senator Kennedy. It is the other 10 percent that we want to get. The 
minimum charter discussions that we had last fall, I think the tran- 
script of that meeting would have been fascinating. 

Mr. Landry. I am not sure of the ground rules for those discussions 
as to whether there was a transcript. I do not know. 

GENERAL FARE INCREASES IN PREVIOUS YEARS 

Mr. Breyer. a couple of minor questions. 

First, I would just like to clarify this, because we are making an 
effort to keep our statistics accurate, I have gone over your prepared 
testimony. I was a little bit disturbed because you stated that contrary 
to what Senator Kennedy said — contrary to the December 16 state- 
ment — last year the domestic airlines were granted fare increases total- 
ing 10 percent. I went back and checked that again and I think we 
were accurate on that, were we not ? 

The CAB, on December 16, granted a 5 percent increase. It granted 
a 6 percent increase in April 1964 and there was a 4 percent increase 
in April 1974. Then, specifically referred to in the speech, the CAB 
phased out discount fares which amounted to a 5.4 percent increase. 
These total 19.4 percent. Senator Kennedy described the increases as 
"nearly 20 percent." 

So I would appreciate your going over your statement because we are 
making an effort to be accurate. I do not think what the Senator said 
is contrary to the facts. 

Dr. James. We think by putting the discount fare changes in you 
are mixing apples and oranges, which is something many others have 
done as well. If you talk about the 5 and the 6 and the 4, the 15 for the 
3 general air fare increases, you are talking about the impact we 



51-146 O - 76 - pt. 1 



114 

had on the normal traveler. If you are talking about the discount fares, 
they affected the family fare traveler and the youth traveler. To many 
that change was almost as much as 40 percent because it was going from 
66 to 75 percent of full fare up to full fare over three stages. 

Now, in turn, however, he now has available, beginning this month, 
20 to 25 percent off. So the change to many perhaps is only 10 or 15 
percent increase. The change to the average nondiscount traveler, the 
general fare increases then are 15 percent in that time period. 

Mr. Breyer. The CAB gave us that number. I would appreciate 
it if you would check it out. 

Dr. James. The difference is whether or not you should have in the 
calculations the discount fare changes which are really yield changes. 

SMALL TOWN SERVICE ( CROSS-SUBSIDY ) 

Mr. Breyer. I just want to stress a point that I had some difficulty 
understanding. I am not certain what argument you are making when 
you talk about the complexity of the network. I think at some point 
what you are saying is that there are a lot of unprofitable routes that 
are being subsiaized by other profitable routes. Now, if that is the 
case, what is interesting to me about that is the Department of Trans- 
portation and the Council of Economic Advisers and people who seri- 
ously studied the matter for a number of years argue that there is 
not any substantial cross-subsidy. If in fact you did have more competi- 
tion you would still get those little towns served, maybe not every 
one, but certainly most of them, perhaps by commuter airlines. But 
you state the contrary is true. 

What I would like to ask you to do is to substantiate that claim, 
come up with lists of costs or lists of those towns that would be cut 
off. Can you prepare this computer printout or whatever cost studies 
are necessary, because we have cost studies on one side and I think it 
would be helpful to have them on the other. 

Dr. James. I believe there are two questions there, one on cross- 
subsidy and our ability to produce this feeder information. 

On the cross-subsidy, I believe that that is a concept that has been 
misused on many occasions, and I would cite this, that if you take the 
flight that we have from Fresno to Denver to Chicago, and we have 
27 passengers that are coming from Fresno to Denver that continue 
on to Chicago. Now, they are on that major hub that is often looked 
upon as subsidizing the smaller feed route that they just came on. 
So they are in effect subsidizing themselves if you call it cross-subsidy. 

Now, what about the passengers who are on that flight who did 
indeed originate in Denver and go to Chicago. Are they subsidizing 
those who were fed into Denver. Well, I believe you can look upon 
that as if they are not, because what is happening there is that they 
are getting a higher level of service than they would have gotten 
without the feeding routes coming into Denver. 

Mr. Breyer. What I am asking is that you make a serious effort to 
prepare the documentation that would bear out the statement. In Cali- 
fornia they have a competitive system and feeder routes, as well. Nore- 
theless, you think if there were freer entry the feeder systems would 
be destroyed. I am asking for the subcommittee if you could submit 
documentation. 



115 

Dr. James. All right, sir. We will make that effort. I might indicate 
that you will find tnere are other sources, and among them larger air- 
craft manufacturers who have studied the same problem, and it is 
very possible that they, too, could produce information along this line. 
We perhaps can lurnish a list to you of tliose who may liave such 
information available. 

Mr. Breyer. I think it is relevant to the question. For example, you 
have often talked about the need for regulation to provide public serv- 
ice. This is perhaps a different question. You say "adequate public serv- 
ice." In California there is a choice between adequate public service 
supplied by a regulated line and unregulated lines. If you look at the 
PSA figures, a line that is not subject to CAB regulation you find that 
far more people fly on PSA in California than on scheduled service. 
When people seem to be given that choice they seem not to take the 
scheduled, CAB-regulated service. 

Dr. James. We think there is a lot that needs to be illuminated be- 
tween interstate and intrastate operations, and we of course, and some 
of the carriers as well, will be participating in your February 14 hear- 
ing in Boston. 

Mr. Breyer. This afternoon is not meant to fully expose the indus- 
try's position. We hope this morning's testimony will focus the dis- 
cussion. Anybody in the industry who wishes to present documentation 
is invited to present it in written form even if they do not testify 
orally. 

Dr. James. Fine. 

Senator Kennedy. I want to thank you very much for coming. 

I think Mr. Breyer indicated we are looking forward to the testi- 
mony of the airlines themselves and working with you and we want 
to tell you how much we appreciate your presence here and response to 
the questions. 

We will recess until next week. 

The subcommittee stands adjourned. 

[Whereupon, at 4 :05 p.m., the subcommittee was adjourned.] 

[The prepared statement of Dr. James follows :] 

Prepared Statement of Dr. George W. James, Air Transport 
Association of America 

My name is George W. James, I am Senior Vice President of Economics and 
Finance of the Air Transport Association of America, which represents virtually 
all of the U.S. scheduled airlines. I am accompanied by Mr. James Landry, ATA 
General Counsel, and Mr. Gabriel Phillips, ATA Vice President-International. 

Because our industry and the public it serves are directly and comprehensively 
affected by the regulatory environment established by Congress, we welcome the 
attention being focused on this subject — in these hearings, and elsewhere on the 
part of the Congress, the executive branch and the public. 

As you stated on December 16, Mr. Chairman, the basic objective of airline 
regulation is adequate service at reasonable prices. We believe airline regulation 
has met that test. Nevertheless, we believe that consideration by this panel and 
others of the issue of regulatory reform presents opportunities not only for 
thorough review of the existing structure and procedures, but — more important — 
for seeking improvements in regulation. These improvements can lead to an even 
more effective and responsive public air transportation system. 

The regulatory environment within which airlines have operated since 1938 
has resulted in "the most comprehensive air transportation network in th3 
world." This is pointed up by the fact that, in 1974, the scheduled airlines, with 
30,000 employees, operated a modern fleet of 2,400 aircraft on 13,000 flights daily, 
and carried 208 million passenger's (representing about 75 percent of intercity 



116 

common carrier passenger miles ) , 3.3 million tons of freight, and 16 billion pieces 
of mail. Further, in 19.4 this industry transported six million more passengers 
than in 1973, and used about one billion gallons less fuel in the process. These 
facts demonstrate clearly the size, importance, and public responsibility of the 
scheduled airlines within the $60 billion U.S. travel industry. 

Dominating the 1974 economic picture for the airlines, as for the nation, was 
the combined impact of the energy crisis, inflation, and recession. Contrary to 
your December 16 statement, Senator Kennedy, last year the domestic airlines 
were granted general fare increases totalling 10 percent. Another 5 percent had 
been granted in December 1973. These fare increases were exceeded by inflation 
in airline costs of more than 20 percent, including the more than doubling of per 
gallon fuel cost during the year. The fact is that additional revenues provided by 
the April, 1974 fuel-related domestic fare increase and the fuel-related portion of 
the 4 percent mid-November increase to which you have referred will total about 
$400 million, as compared to the 1974 domestic fuel cost increase alone of 
about $700 million — a shortfall of $300 million. Yet, despite the massive chal- 
lenges which have confronted our industry during the past year, our record 
of public service — providing quality transportation at reasonable fare levels to 
meet the needs of the traveling and shipping public — has remained strong. 

Simply put, the experience of 37 years of regulated competition has resulted 
in an air transportation network bringing adequate, integrated, and reliable 
public transport service to 540 U.S. airports serving thousands of communities, 
at reasonable and cost-related prices — as a matter of fact, the best transportation 
system in the world. 

This industry has come a long way since 1938, and the regulatory environment 
within which it has operated played a key role in this development. The CAB 
and the private, competing airline managements have worked within the frame- 
work of regulated competition established by Congress to furnish the American 
people this unparalleled system of transportation, a system, we believe, that 
would not have been possible except through a balance between regulation and 
competition in the industry. 

Regulated Competition 

The system of air transportation, since its inception as an effective force in 
the American economy in the late 1930's, has been founded on the principle of 
regulated competition. This has been necessary because of the special position 
of public transportation in the economy. In the spectrum of economic activity, 
from a natural monopoly to perfect competition, transportation falls in between. 

Unlike certain specific public utilities in which embedded costs are immense 
and therefore economies of scale so apparent ^ that they may be characterized 
as natural monopolies, components of air transportation are conducive to com- 
petition. While the cost of equipment and facilities is high, and rising, airlines 
are by their nature mobile. More important, airlines are embedded in the essen- 
tially competitive structures of market economics, requiring efficient and adapt- 
able management to compete effectively against unregulated business for capital 
in the marketplace.^ Thus, competition has properly played a key role in the 
development of U.S. air transportation. 

Still, air transportation cannot be placed in the perfect or workable competi- 
tive environment since, as historical experience has shown, without degrees of 
government regulation of competition, public service industries have become 
inadequate. Nor can it be expected that abolishing of regulation would lead to 
the best allocation of air transportation resources. 

The Elements of Air Transportation Regxilation 

Air transport regulation can be viewed as having essentially four basic 
objectives : ^ 

1. Prevent unreasonable prices which produce excessive earnings ; 

2. Ensure profits suflScient for the development and expansion of the industry; 

3. Assure that a wide variety of services are offered to the public ; 

4. Maintain certain types of directly unremunerative services that serve a 
broad public need. 



- Me^-er. John. Competition. MTUet Structure and Regulatory Institutions in Transporta- 
tion. .50 Vn. L. Rev. 212, 214 (1964). 

2Thi(1. at 218. 

'Meyer, John: Peck, Merton ; Stenason, John; Zwlck, Chnrles. The Kf'onom'cs of Com- 
petition in the Transportation Industries, Harvard University Press, 1960, p. 11. 



117 

With the exception of the fourth objective, the others are generally considered 
to be the normal results of the workings of a competitive marliet. 

Further, there are certain unique elements of air transportation which, if left 
to the free market processes, could create a concentrated industry in a relatively 
short period of time.* These characteristics include the complexity of aircraft 
operations, the increasing expense of individual aircraft, the need for extensive 
maintenance facilities, and the fact that a high percentage of the passenger 
markets are between points of such low traffic density that even a single monopoly 
carrier might not be able to cover costs. Moreover, though, the air transportation 
system still must purchase its own goods and services from the environment of 
competition, for it buys its supplies at prices set by the economy as a whole, it 
compensates its employees at wage levels uncontrolled by government, and it must 
compete for both the consumer dollar and the capital dollar in the basically un- 
regulated markets.^ 

All of the above shows that there are characteristics of the air transportation 
market that preclude its operating in perfect of workable competition, and that 
the middle ground between a natural monopoly and deregulation is desirable 
from the standpoint of public service and from the standpoint of economic gains 
in the economy as a whole. 

Air transportation is perceived as performing an essential public service, 
namely, the movement of people and goods throughout the nation, lubricating 
the flow of commerce. It is this fundamental purpose, superimposed on the 
natural and proper competitive environments, which government seeks to achieve 
through its power of regulation. 

The air transportation marketplace, and the nature of the business itself, 
provide a special role in the economy. Airline customers, including government, 
business, and communities relying on airline services, have a need for such serv- 
ices at times, to places, and under circumstances ordinary business would not 
provide. This need is repeatedly emphasized in the demand for such services 
expressed by the public at route hearings before the CAB, in legislation enacted 
by Congress, and generally in the marketplace. 

The National Air Transportation System 

Thus, the result of this government involvement, combined with the benefits 
of a vital private enterprise, has been an environment of regulated competition. 
This environment has provided a major impetus for the development of the 
present national air transportation system sought by Congress in the public 
interest since the enactment of the Civil Aeronautics Act of 1938 in response to 
the unregulated economic climate and resulting chaos characterizing the pre- 
ceding decade." 

The national air transportation system is characteri7ed by stability, speed, 
reliability, and, above all, a vast network of interlocking air routes connectinj? 
58,000 city-pairs. Its value to the nation and the public is derived from all of those 
essential features — providing society with speed, mobility, and convenience 
through the integrated service network, contributing to employment, directly 
and indirectly through allied services and related industries, and making a 
significant gross contribution to the total output of the United States. 

It is the continued strengthening of this system in the public interest which 
the issue of regulatory reform concerns, and which is the stated goal of these 
hearings. 

Objectives of Reform : Theory and the "Real World" 

Many of the regulatory policies and procedures developed over the years by 
Congress and the Civil Aeronautics Board naturally have been the subject of 
discussion and debate among articulate and learned proponents and critics — 
in government, in institutions of learning, and within the airline industry. Es- 
pecially in recent times, the debate has been extended even to question the con- 
tinued wif'dom of the underlying principle of regulated competition itself. 

Mr. Chairman, you have spoken of the obligation of Congress, in its role as 
legslative overseer of the regulatory structure, to examine that structure to as- 
sure that the CAB carries out its responsibility to regulate air carriers in the 
public interest, and to make such changes as may be required. This process is 



«Ibid., p. 228. 

s Tbid., p. 2. 

" First Annual Report of the Civil Aeronautics Authority, 1940, p. 1. 



118 

not only useful, but patently necessary, we believe, to assure the continued 
vitality of our industry and the public service it provides. 

The Real World 

We believe it essential that in the deliberations today, and in those vphich 
will follow, special care be taken to insure that it is the "real world" of air 
transportation which is the subject of scrutiny. Hypothetical models alone — 
based as they are, not on the actual demonstrated needs of the traveling and 
shipping public, but rather on theories applicable only in an insulated theoret- 
ical environment — may be helpful as a guide to thinking. But their application 
beyond the classroom or the text book must be carefully considered in light of 
existing, real circumstances. 

We intend, therefore, to look to this "real world", today's and tomorrow's, 
to review what the objectives of air transiX)rtation and the underlying regulatory 
principles are; to identify the actual results of our system of regulated com- 
petition ; and to suggest realistic areas of improvement in that system to render 
it better able to serve public needs in the last quarter of this century. 

The Critics' View and Its Inadequacies 

Many of those who have found fault with the regulatory environment in which 
air transportation now operates seek to achieve a laudatory goal : air transport 
service at minimum cost-based prices, principally through operation at higher 
load factors generally termed maximum efficient quality of service. We believe 
we have accomplished that goal taking into account another equally important 
goal, the need for adequate public service. Little, if any, attention is paid in the 
scholarly works published by the critics to this important need which you have 
cited. Senator Kennedy, as the basic objective of airline regulation. After all, 
it is the provision of adequate public service, at reasonable prices, which by 
definition characterizes an effective public transportation system. And adequacy 
can be measured in many ways, in respect to a particular market for example, 
by a precise measurement of volume, timing of schedules, ability to obtain seats 
on a particular flight, load factor on flights operating at convenient times.' To 
serve the public adequately, the air transportation system must permit reason- 
able access between all points on the system. 

Additionally, the critics have paid little attention to the need for providing 
an amply differentiated range of qualities and types of any given product to 
choose from,^ a prime objective of competition in our nation's economic system. 
As I shall demonstrate, it is this choice of product, at a varying range of price, 
which today characterizes air transportation in the United States, and it is a 
measurement of the effectiveness of our competitive environment in serving the 
public. 

A system which would fail these tests clearly would not be providing effec- 
tive public service and, in turn, contributing to the nation's economic strength. 

In reviewing the results to date of regulated competition in public air trans- 
portation, we shall focus on those objectives sought by critics, always mindful 
of the overriding public requirement for adequate service. 

Achievements of Regulated Competition Since 1938 

The True Costs of Air Transportation 

Since 1938, average scheduled airline passenger fares, in constant dollars, 
have steadily declined relative to costs of all U.S. goods and services (exhibit 1). 
The fact can be further demonstrated by the following example : When compared 
to prices of certain other commonly purchased items in the years 1948 and 1974, 
air fares represent a bargain to the consumer. During this time the round trip 
air fare between New York and San Francisco rose 21 percent ; a pound of round 
steak increased in price 100 percent ; a pair of men's shoes increased over 120 per- 
cent ; a Chevrolet automobile increased over 220 percent; and though not 
commonly purchased, a year's tuition at Harvard increased over 640 percent 
(exhibit 2). 

Further, in comparison with other modes of common carrier transportation, air 
fares, in 1938 constant dollars, have dropped markedly more than either bus or 
coach rail fares ( exhibit 3 ) . 



T Milwaukee-Chicago-New York Restriction Case. 11 CAB reports, 310. 319 (1950). 
s Clark, .T. M., Comnetition : Dynamic Criteria of Appraisal, Business Organization and 
Public Policy, Leven, H. O., ed., 1958, p. 8. 



119 

coff?o?nifn ^""^^^ have Similarly experienced a continued decline relative to 
costs of all U.S. goods and services in the period 1946-1974 (exhibit 4) ^^ 

Choice of Fares 

For the domestic air traveler, a wide choice of fares is currentlv available 
depending on time of day or week traveled, length of stay, and c?ass of service 
desired^xXotable among these fares is the recentlj approved broad based discount 
fare, which provides an attractive bridge between charter and regular fares 

Public use of the entire range of available fares historically has been extensive 
For the year ending September 1974, for example, use of lower than full fares 
accounted for almost one-third of all coach revenue passenger miles (exhibit 5). 
Price Performance 

From the evidence presented here, it is inaccurate and unfair to draw the con- 
clusion that air fares are high. Further, to then blame it on a lack of government 
regulation or the nature of regulated competition is, of course, also inaccurate 
and unfair. Let me summarize what I have just presented regarding air fares : 

1. The record of regulated competition in the air transport industry shows 
that, in constant dollars, air fares are 64 percent less than they were in 
1938. 

2. In the spectrum of price changes in current dollars, since 1948 prices of 
nearly all U.S. goods and services exceed the change in the price of air fares. 
Air fares have averaged less than 1 percent a year increase over this time 
period. 

3. The use of scheduled air fares includes individuals with incomes well 
below the average in the U.S. A 1974 Gallup survey showed that one of every 
seven adults making less than $7,000 annual income flew on the scheduled 
airlines. Overall, the Gallup data revealed that 18 percent of all adults mak- 
ing one or more trips by air made less than $7,000 yearly (exhibit 6). 

4. Although the airlines are more fuel intensive than most U.S. industries 
and have had to absorb $1 billion of additional fuel costs in the past year, still 
general air fare increases in 1974 were less than the change in the consumer 
price index and considerably less than the change in the wholesale price 
index. The addition of the 5 percent general fare increase in late 1973 would 
not alter this comparison appreciably. 

This pricing performance, at an adequate level of service, either in the long 
run or the short run, could not have been matched by pricing in a deregulated 
environment. In fact, in the long run, as evidenced by the pricing performance of 
the U.S. economy as a whole, deregulation of the air transport industry would 
have placed prices and fares at a much higher level than now exists. 

CAB Performance Standards— The Effect of the DPFI 

Members of Congress were primarily responsible for the Civil Aeronautics 
Board initiating the Domestic Passenger Fare Investigation in January 1970. As 
a consequence, the CAB conducted a most thorough and comprehensive review 
and revision of the procedures by which domestic passenger fares are regulated. 
That part of the investigation covering fare level and rate of return procedures 
began in January 1970, and the results were first applied in May 1973. It in- 
volved thousands of hours of staff work, research, and open public hearings 
participated in by any who so desired. Administrative law judges listened to 
the arguments of interested parties for assuring, among other things, that the 
airline industry was responsive to consumer interests and needs, and that such 
benefits to the traveling public in the form of reasonable air fares were passed 
on. The results produced an innovative step forward in regulatory procedures, 
and were a testimonial to the air transport industry's staying well ahead of any 
need for wholesale regulatory reform. The CAB standards of efficiency assure 
that there is no automatic fare increase to consumers for so-called industry cost 
mistakes of purchasing excess equipment, of misestimating a market and hauling 
too few people, or for giving away business through discounting. The CAB 
standards of efficiency adjust for all of these, and no fare increase is allowed 
until these adjustments have been made. 

Since May 1973 each fare increase granted to the industry, including the 4 
percent increase granted last November, has been based on meeting these 
standards. 

Many of the participants in various phases of the investigation include those 
who now criticize the CAB for approving fare changes. 

These CAB fare level procedures, resulting from open public hearings, are not 
arbitrary, were not developed from clandestine meetings, and have a clear and 



120 

comprehensive public interest platform built in. Yet the opposite and misleading 

impression is often given by critics as an emotional appeal to consumers. As we 

have shown, in fact it is the consumer who is the primary beneficiary of these 

procedures. 

Adequacy of Service — Load Factors 

As I have emphasized previously, in addition to meeting the need to provide 
reasonable prices, the primary function of our industry is to provide adequate 
and reliable service throughout the nation, to permit people and goods to move 
rapidly and smoothly from any one community to any other. This system, then, 
must provide service at the times and places desired by the public. 

Senator Kennedy, in your statement on the Senate floor on December 16, 
you referred to the difficulty a student in Boston might experience in returning 
to his home in Detroit because of a lack of available seats on that route, I am 
sure you will recall that the system load factor standard established by the 
Board in the Domestic Passenger Fare Investigation was 55 percent. But the 
diflSculty of relating any particular load factor to adequacy of service is clearly 
illustrated bv vour example. 

In 1974, the average load factors experienced by the single carrier with nonstop 
operating authority in the Boston-Detroit market was 59 percent. Thus, though 
some critics of our industry believe our sy.stem load factors should average as 
high as 65 percent, you have cited an example of possible inadequate service at 
a load factor of 59 percent. In reality, you have underscored a point seldom under- 
stood by our load factor critics. To average 59 percent, the Boston-Detroit 
market shows a monthly load factor range from 52 to 67 ijercent, this example 
offering further demonstration of the seasonality of our markets (exhibit 7). 
In order to reach the higher .system average load factor standards suggested by 
many, the airlines would be required to adjust capacity to conform to low- 
demand periods, inevitably resulting in less service available to passengers in 
busier times. 

The question of capacity, then, is not a simple one in the real world we serve. 
There is a common tendency among observers of the scheduled air transport 
industry to overlook the fact that, although 30 percent of our domestic traffic 
is produced by only 70 larger city-pair markets, 40 percent is derived from 840 
markets, and another 30 percent is produced in some 57,000 smaller markets 
(exhibit 8). The units of capacity available to serve the.se disparate markets 
are not infinitely adjustable — they are not, in fact, those elusive available seat- 
miles we hear and read about ; they are airplanes, each containing many seats. 

Thus, to add a few extra seat miles in a market, where the individual aircraft 
have maximum seating density, requires the addition of significant numbers of 
seats, represented by another flight, or the substitution of larger aircraft. It 
should be noted that increasing the size of aircraft does not increase frequency 
for the convenience of passengers in a smaller market. Similarly, the reduction 
of a few seat miles to adjust to a temporary down-turn in traflEic in a particular 
market or to changing economic conditions normally requires the elimination 
of a flight. For example, one major carrier operates a single nonstop Boeing 707 
between New York and Phoenix, producing on that one route 197 million seat- 
miles annually. How can a few seats be added or reduced on that route? 

Whether or not the real world facts conform with any theoretical model, 
simply stated, the decisional units our industry planners work with are not 
easily flne-tuned. They cannot be easily adjusted without the danger of substan- 
tial elimination of needed public service, and without potential damage to the in- 
tegrated air transportation network. And the macro-analysis frequently applied 
to our industry does not take into consideration the units of capacity we must 
deal with every day. 

The Integrated Network — Through Flights and Connections 

In light of these facts, how does the scheduled air transport industry provide 
service for more than 57,000 smaller markets, and integrate those markets into 
the network including the 70 major markets? 

This achievement is the result of two essential devices — through flights and 
connections. 

Through flights constitute extensions of flights to provide service for a smaller 
amount of local traffic to extended points and major markets. Similarly, through 
the connections offered by the integrated scheduled air transportation system, it 
is possible to make transfers onto other aircraft in order to reach any of the 
540 aitiiorts served. Because the number of passengers in many of these local 



121 

markets is far below the level required to supiport single-plane service,' it is by 
the use of through flights and connections that carriers are able to provide the 
present significant level of single plane service and transfer service. 

Coineidentally, then, this process becomes the principal basis for the airlines' 
ability to serve an extended network of cities. Of course, it also results in lower 
industry load factors which are brought down by both through and connecting 
flights from low density cities. 

The Operation of the Network 

In a clear example of this process, one of the major scheduled airlines provides 
daily DC-8 one-stop through service from Fresno, California, via Denver to 
Chicago. At Denver, this flight is connected by 11 other flights, from such dis- 
parate originations as: Pueblo, Colorado; Cheyenne, Wyoming; Great Falls, 
Montana ; Sacramento and San Jose, California. Figure 1 depicts this complex 
for an average of a peak and low traffic month. On this eastbound flight. 27 
passengers originating at Fresno ultimately terminate at Chicago. In addition, 
approximately 42 passengers board the flight in Denver from 11 connecting flights! 
Out of a total passenger load of 85 from Denver to Chicago, therefore, over three- 
fourths do not originate in Denver. The majority of passengers on that flight are 
fed to it through the highly integrated scheduled system, a fabric woven over 37 
years of regulatory supervision of air transportation. 

■ " «^*'x.P°'?,®f $l^i^°"J^ System— Analysis and Policy Recommendations, Bureau of Operat- 
ing Rights, CAB, October, 1974, p. 79. 



122 




Figure 1 



On the return flight, originating in Pittsburgh, operating through Chicago and 
Denver, and terminating in Fresno, the intricate fabric of through flights and 
connections is even more apparent, as shown on figure 2 



123 




Figure 2 



Unrestricted entry or exit would cause serious consequences to this system. 
There can be little doubt that if one, two, three, or more of these feeder con- 
nections, or the beyond segments on through fliglits, were eliminated from this 
c(mii)lex the fabric itself would disintegrate. 

As is clear in the cited examples, the profitability of the primary market, in 
this case Denver-Chicago, is dependent on the many smaller secondary markets 
it serves. If oven a few of the secondary markets ceased being served regularly 
and dependably, the primary market may well become less profitable. As a re.sult, 
it would receive less service, and the remaining smaller feeder markets would 
also receive less indirect service. The ultimate effect, then, of small market 
adjustments can be extreme. 



124 

Further dramatic examples of this principle are readily available, e.g., Albu- 
querque, New Mexico; Moline, Illinois; Nashville, Tennessee; Portland, Oregon; 
Providence, Rhode Island ; Tiicson, Arizona, are readily accessible to Akron/ 
Canton, Ohio, with a single connection and never more than a single stop. 

Furthermore, in 1972 this system provided single plane service to all markets 
with over 70 passengers a day, and to all but three markets carrying more than 
60 passengers daily^ — a direct result of the combination effect of through traffic 
between several markets on a single linear route.^" Additionally, in 1972 on flights 
between cities less than 100 miles apart, 90 percent of all passengers transported 
connected to other flights or were carried as through passengers ; on flights 
between cities 600-800 miles apart, such connecting or through passengers com- 
prised about two-thirds of the total ^^ (exhibit 9). 

The Interdependence of the Network 

The quality of service to the 57,000 smaller relatively low-demand markets, 
therefore, is directly dependent on the highly integrated, stable air transport 
system. The system operates witliout significant changes in the number of car- 
riers offering service, without the instability which would characterize unre- 
stricted freedom of entry and exit, and with the CAB-imposed requirement that 
service continue to be provided where warranted in the public interest. Lapses in 
service resulting from carrier failures, from large scale withdrawals of service, 
or from lack of a tie-in to ticketing, baggage handling, or other benefits of the 
present system, would inevitably disrupt that system, and would inevitably work 
hardship first on those living in smaller communities who rely on quality 
scheduled air service to meet their transport needs. Moreover, automobile gaso- 
line consumption would increase as people are unable to use air transportation 
and are forced into the use of ground transportation. Further, it would represent 
a major cost to the nation in time lost in conducting business or time shortened 
for personal or pleasure reasons. 

In January, 1973, Dr. Cary Fromm of Data Resources, Inc., completed a study 
for ATA on The Value of Aviation Activity. The study estimated cost and time 
differentials in 1970 among four modes of service over the average airline flight 
distance of 679 miles. Cost and time estimates covered the entire trip, including 
not only enroute but terminal and local access costs and time as well. 

The DRI study also estimated the average family income of an air traveler in 
1970 to be $22,500 a year. If such a traveler valued his time at an hourly rate 
equivalent to his annual salary ($10.47 per hour), the following table would 
illustrate the monetary value of traveling by air versus alternative modes : ^ 





Added trip cost 

of air versus 

alternative mode 


Time saved in 

traveling by air 

(minutes) 


Monetary sav- 
ings in traveling 
by air 


Air/rail.. 

Air/bus 

Air/auto... 


.--- 17 


441 
563 
508 


'1! 

72 



Birmingham, Alabama, to Miami, Florida, is about the same trip distance 
(661 miles) as the average distance used in the DRI study. In 1970 there were 
an estimated 29,000 passengers in this market who started their air trip in one 
of these cities and whose final destination was the other city.^" The dollar value 
of the time savings in this market alone would be : 

Time savings 
(in millions) 

Air/rail 1.9 

Air/bus 2.4 

Air/auto 2.1 



i«Ibld., p. 62. 

11 Ibid., p. 65. 

^ Fromm, Gary, and Data Resources, Inc, Value of Aviation Activity, ATA, January, 
1973. pp. 9 and 12. 

" CAB, Origin-Destination Survey of Airline Passenger Traffic, Domestic, table 8, 4th 
quarter 1970, p. 86. 



125 

On this basis elimination of air service to thousands of smaller city-pair 
markets would cost the national economy billions of dollars. Substitution of less 
time-efficient aircraft would also cost the air traveler and the national economy. 
Commuter aircraft, for example, cannot fly as fast as larger propellor or jet air- 
craft nor as far. Again, application of this time loss impact to thousands of city 
pairs would cost the economy billions of dollars. 

Efficient and Productive Operations 

Within the framework of regulated competition, the scheduled airlines have 
produced, through operational efficiency and productivity, the quality public 
service I have described. 

The scheduled airlines have operated with a high level of schedule reliability. 
In 1974, 98 percent of all miles scheduled were actually flown, a record especially 
remarkable in view of the variety of weather conditions experienced and the 
degree of mechanical stress placed on a system involving 13,000 daily flight opera- 
tions. A non-integrated system, lacking regulatory controls, could not be expected 
to approach this degree of reliability. 

Equally remarkable, the scheduled airlines have conducted their operations in a 
time of high inflation with a high degree of cost control — especially over those 
costs which were peculiarly within the power of airline management to control. 
For example, advertising costs per revenue ton-mile in the third quarter of 1974 
were 8 percent less than in 1967, and passenger food costs per passenger mile rose 
less than 5 percent over the past year. On the other hand, since 1967 labor cost 
per employee has risen about 92 percent and fuel cost per gallon by 150 percent 
(exhibit 10). Nevertheless, in 1974 the scheduled airlines carried 20 percent more 
passengers than in 1969, accounting for 30 percent more revenue passenger miles, 
hut with 3.5 percent fewer employees. 

Clearly, then, the management record of the scheduled airlines is a good one, 
especially under conditions of great stress, and the payoff for the public has been 
in low fare levels as measured in comparison with other goods and services pro- 
vided in the economy at large. 

Finally, it is important to note that the speed and safety record of the industry, 
resulting from technological improvements which the airlines helped develop, 
has permitted the public to travel quickly and safely across the nation. The 
impact of these developments on the abilities of government and private business- 
men to conduct their important affairs, and the general public to travel on per- 
sonal vacation or pleasure, must be weighed in any assessment of the effectiveness 
of regulated competition. 

Impact of Regulatory Reform 

Public Policy, Section 102 

The scheduled airlines lielieve that this review of the regulatory structure and 
environment in which air transportation operates can product improvements to 
the excellent system that exists. We shall suggest, today and in later stages of 
your deliberations, some areas where we believe adjustments might be considered. 

Nevertheless, while any of our carriers may be critical of some aspects of the 
specific application by the CAB of its statutory authority pursuant to the Federal 
Aviation Act of 1958, we believe that underlying public policy contained in section 
102 of that Act is sound. It is vital to our nation's long-term interest that the 
precepts established in section 102 be reiiiforced, not discarded. For, as the real 
world results we have described so clearly demonstrate, those principles have 
worked well to serve the broadest public interest. In fact, if section 102 did not 
exist, it would most certainly be needed now. 

Theory Versus Practice — The Public Interest 

No one can be certain of the consequences of tampering with the structure — 
least of all those who base their proposals on so-called "perfect" econometric or 
theoretical models. Such models are perforce based on assumptions untested in 
the special marketplace and operating environment which controls air transpor- 
tation " — and they are developed fundamentally wnthout a basic regard to all of 
the public interest considerations which must concern Congress, the CAB, the 



'* Assumptions on these models generally begin with ceterus paribus, i.e.. all other 
things remaining equal. In the real world all other things do not remain equal and the 
change in one factor must be reviewed in light of changes in all other factors. 



126 

airlines, and the tliousands of U.S. communities served by scheduled air trans- 
portation. 

These considerations, broadly termed public service, are not susceptible to neat 
econometric equations and tidy quantification, but they are nonetheless real, and 
frequently are determinative if a viable national air transportation network is to 
continue and contribute to the national economic welfare, operating as it must 
within the matrix of conflicting interests. 

Moreover, in meeting the critics on their own ground, a word must be said 
with respect to the consequences one might anticipate from wholesale, so-called 
"free market" restructuring of the system. 

Disintegration of the Network 

The present system represents a wholly integrated network of scheduling, con- 
nections, interlining, and routing among and between carriers serving cities of 
varying size and geographic proximity to each other. Despite this high degree 
of integration, the system is dynamic — it is continually changing to meet new 
traffic needs. A glance at the Official Airline Gride (which contains the schedules 
for the entire air transport network) provides dramatic evidence of this point. 
For example, the OAG (North American edition) published on February 1, 1975, 
is 898 pages long. This massive volume depicts the schedules of every scheduled 
carrier in North America, to and from virtually every community served, with 
connections indicated. The OAG is republished every two weeks, and incorporates 
the most up-to-date changes in schedules, connections, and service provided 
throughout the system, throughout the 58,000 U.S. markets (and some foreign 
markets) served by the scheduled airlines. 

It is the continuity and complete integration of this network which wOuld be 
jeopardized by drastically revising or dismantling the structure so carefully 
constructed, and continually improved, over the last 37 years. And with what 
result? 

First, there can be little doubt, at least in the short term, that, adaptable 
though they may be, scheduling, connections, interline routings, ticketing and 
baggage handling would be severely disrupted by airline entry into and exit 
from markets on an unrestricted basis. Customer service inevitably would be 
most adversely affected. 

Even more important, as some have properly contended, free market forces 
would result in scheduled airlines' leaving many less profitable markets, and 
concentrating only on certain of the major routes, with the consequence that 
medium and smaller size cities of the Northeast, Midwest, South, and Far 
West would suffer. 

How would they suffer? First, their access to major markets would be re- 
stricted severely. Certainly many entrepreneurs would seek to serve some of those 
markets. Such service would be represented by airlines of varying reliability, 
new and old, some of erratic or marginal financial strength, often suffering at the 
outset by the extraordinary start-up costs required for purchase of aircraft and 
establishment at airport facilities. 

The record of the commuter carrier industry, good as it is with respect to 
reinforcing the existing scheduled air transportation network, offers ample proof 
of the foreseeable circumstances confronting many smaller operators seeking to 
serve the many less dense markets now served well through the effects of through 
and connecting scheduled air transportation. While much has been said and 
written of the diseconomies of scale in air transportation, the diseconomies of 
small scale with respect to stability, dependability, and overall adequacy of 
service are particularly hazardous and should be carefully examined. 

For example, in 1972, 431 U.S. cities received scheduled pas.senger commuter 
service. Of those cities seventy-four (17 percent) were abandoned in 1973, and 
service was added to 104 new, previously unserved cities. Thus, in a single year, 
178 cities exi)erienced a change in scheduled computer service — roughly one-third 
of all cities receiving such service. The volatile experience of the largely unregu- 
lated commuter system hardly gives one confidence that the consequences of a 
free market approach to air transportation would represent an adequate substitute 
for the benefits of the stability which has characterized the national system 
wisely devised by Congress and regulated by the CAB since 1938 Reliable service 
to small and medium cities especially is threatened by any weakening of the 
integrated stucture, and a weakening of those markets threatens the continued 
strength even of many of the larger markets. 



127 

Further, the cost to the smaller communities of operating their existing airport 
facilities in the absence of regular scheduled service would be high. Maintaining 
a reasonably up-to-date facilty for uncertain or sporadic service ay well prove 
beyond the means of many communities. If those communities were to require 
the carrier serving the community to bear a high proi)ortion of these expenses on 
the basis of irregular operations, the cost to that carrier may well be prohibitive 
even for the level of service it is otherwise capable of jiroviding. Thus, the dis- 
integration of the system may well feed on itself — resulting in even less service 
to many U.S. communities not closely proximate to the major markets. 

The Public Cost of 65% Load Factor 

The relationship between load factors and service requirements for the many 
communities receiving scheduled air service is profound. Many critics of the air- 
line industry have criticized the load factor performance. Yet, the 55 percent 
load factor standard established by the Civil Aeronautics Board, taking into 
account load factors of 30-40 percent on some low density routes and peaks of 
80-95 percent on some high density routes, incorporates an allowance for a level 
of service suitable for maintaining the expansive network of hundreds of smaller 
communities throughout the United States. In order for these commimities to be 
served, average system- wide load factors cannot be high. 

This result is graphically exemplified by the impact on air transportation of the 
current energy crisis. We have developed estimates of possible future reductions 
in service as measures of the impact of the Administration's energy proposals. 
In order to meet a 65 percent domestic system load factor at prevailing fare 
levels, as suggested by some as a solution to the airlines growing fuel cost 
problem, availal)le seat miles (system capacity) would have to be reduced 25 
percent, and hundreds of aircraft grounded, with tens of thousands of employees 
released. The effect of cutbacks of this magnitude on service to cities large and 
small would be a severe penalty to public service and to the economy as a whole. 

Recommended Regulatory Reform Considerattons 

In general, the airline industry believes that the regulatory environment 
within which we operate has served the public interest well. We believe the 
results support that conclusion. 

However, in certain instances, airlines have opposed and continue to oppose the 
manner in which the regulatory process has been carried out. And we believe that 
certain areas of economic regulation of our industry do require attention. 
Regulatory Lag 

By no means restricted to the procedures adopted by the Civil Aeronautics 
Board, the problem of regulatory lag (delay in regulatory decisionmaking) is 
endemic to the regulatory process throughout much of government. As a conse- 
(luence, decisions when made may no longer be timely or well-suited to the cir- 
cumstances. Notable among the public benefits resulting from the DPFI has been 
the reduction of time between cost changes and fare adjustments, particularly 
early in 1974 with respect to the impact of the fuel crisis on airline costs. It seems 
sensible to our industry that the application to other areas of regulatory decision- 
making of more efficient and streamlined approaches, with full public 
participation at all stages, would result in a more responsive regulatory process. 
Reporting Requirements 

As with respect to the question of regulatory lag, we strongly believe that the 
proper requirement for full and complete industry reporting of economic and 
financial statistical data need not result in duplicative and redundant effort on 
the part of the industry or the regulator. The application of reasonable cost and 
benefit analysis of the current reporting requirements will result, in our opinion, 
in a streamlining of this effort and substantial cost savings to both industry 
and government, without in any way impairing the public interest in full and 
complete data. In fact, through simplification and elimination of redundancy, 
much of the complex data now available could be rendered more understandable, 
and therefore more useful to all interested parties to the regulatory process. 
Continued Refinement of Regulatory Standards 

The Civil Aeronautics Board, notably in the DPFI, has established standards 
for measurement of industry performance. While our industry has generally 



128 

supported their adoption, there continue to be differences of opinion with respect 
to the application of some of those standards. We believe regulatory standards 
need not be set in concrete. On the contrary, they should be subject to continuing 
scrutiny by the Board, and amended when and as required in the public interest. 
Such continuing refinement would characterize a regulatory process truly respon- 
sive to the continuing changes in the dynamic American economy. 

Route Development Policy 

The scheduled airlines believe the undertaking by the Civil Aeronautics Board 
of a comprehensive review of route development policy is desirable. There may 
be different opinions within our industry on the findings, conclusions, and rec- 
ommendations contained in the study undertaken by the CAB's Bureau of Oper- 
ating Rights, the Domestic Route System : Analysis and Policy Recommenda- 
tions.^'^ However, we believe careful consideration should be given to the view 
contained in that report that : 

. . . regulatory route and route-related policies should be directed to im- 
proving the efficiency and quality of the system, through careful expansion 
of route authority when required by traffic, and through route rationali- 
zation.^" 
Because of our obligation to provide the public adequate service, we share the 
Bureau's statement that without such policies : 

... it is possible that the quality and eflBciency of the system will decline 
over time and, ultimately, adv'ersely affect the general economy." 
The Board, our industry, and the public should carefully consider the Bureau's 
recommendations with respect to requirements in future route proceedings for 
submission of data ; implementation of published standards for route expansion 
consistent with the Board's DPFI goals and traffic requirements ; and route 
rationalization. This approach could represent a significant step in dealing with 
an aspect of air transport regulation deserving attention. 

Tariffs 

Section 403 of the Federal Aviation Act of 1958 provides for carrier filing of 
full and complete tariffs with the CAB for public inspection. 

The principle embodied in this statutory requirement is clear — that the public 
interest is best served by advance notice of applicable rates and services, rules, 
regulations, and practices for air transportation. Under current procedures, 
achievement of this objective is impeded by last-minute approval or suspension 
of tariffs by the Board. The scheduled airlines have advocated a change in these 
procedures, to extend the filing deadline from 30 days prior to implementation 
to 45 days, with Board decision required after 30 days, thereby providing 15 
days advance public notice of tariff changes. Further, in view of the necessary 
complexity of tariff filings, we believe adoption of a simplified short-form tariff 
would work to enhance public understanding of a given tariff cliange. The short- 
form, of course, would not replace the more complete tariff filing properly re- 
quired for complete information purposes. However, it would serve to render 
more meaningful to the consumer the effect of any given tariff change. 

In conclusion, we wish to reemphasize our support for the effort this Sub- 
committee has undertaken, today and in later sessions, to review the effective- 
ness of federal regulation of the scheduled airline industry. We believe the public 
benefits derived from regulation have been many ; and we urge consideration 
of the suggestions for improvement which we have made, and will make in 
coming hearings. Out of this process and the continued attention of Congress 
to the needs of the public for essential public air transportation services, we 
are confident the strength of the national air transport system is assured. 

On behalf of the Air Transport Association, I wish to express our gratitude 
for the opportunity to discuss with this Subcommittee our views on this matter 
so vital to our nation's economic welfare. 



1" Bureau of Operating Rights, CAB, October. 1974. 
i« Ibid., p. 9. 
I'Ibid., p. 146. 



129 

Exhibit 1 



AVERAGE FARE PER PASSENGER MILE 

DOMESTIC SCHEDULED SERVICES -- TRUNK AIRLINES 

(1938 Constant Dollars)!/ 



AVERAGE 

REVENUE 

PER 

PASSENGER 

MILE 

6 









] 








\ 














\ 


v^ 






















\ 






























„ . .„ Si 



\_l Deflated by Implicit Deflator - GNP, Adjusted to 1938 Base. 
2/ 1974 Yield for First Nine Months. 



51-146 O - 76 - pt. 1 - 10 



130 

Exhibit 2 



CHANGES IN AIRFARES COMPARED WITH 

OTHER U.S. PRODUCTS AND SERVICES 

(Current Dollars) 

Per cent 
change 

Item 1948 1958 1968 1974 1948-1974 

House $47,409 $59,558 $72,840 $100,000 +110.9% 

Family Size Chevrolet $ 1,255 $ 2, OSl $2,656 $ 4,119 +228.2% 

Newspaper 

(The New York Times) 3(p 5<? 10(p 15<p + 400% 

Ticket to 

Broadway Musical $6.00 $ 8.05 $ 12.00 $ 15.00 + 150% 

Ranch Mink Coat $ 4,200 $ 4,000 $ 4,200 $ 4,500 + 7.1% 

Nathan's Hot Dog 20(p 25? 35(? 50? + 150% 

Pair of Blue Jeans $ 3.45 $ 3.75 $ 5.29 $ 11.25 +226.1% 

Gallon of Gasoline 25. 9(p 30. 4(; 33.7? 55.6? +114.8% 

Pair of Men's Shoes $9.95 $ 11.95 $ 16.95 $ 21.95 +120.6% 

Year's Tuition at Harvard $ 455 $ 1,250 $ 2,000 $ 3,400 +647.3% 

Hospital Cost 

per in-patient day $ 13.09 $ 28.17 $ 61.38 $ 114.90 +777.8% 

Roundtrip Airfare 

New York-London $ 630 $453.60 $484.50 $ 640 + 1.6% 

Phone Call, New York to 

Topeka, Kansas (day rate) $ 1.90 $ 1.80 $ 1.40 $ 1.25 - 34.2% 

Pound of Round Steak 90.5? $ 1.04 $ 1.14 $ 1.81 +100.1% 

Pound of Chicken 61.2? 46.5? 39.8? 55.7? - 9% 

Roundtrip Airfare 

New York-San Francisco $286.30 $ 208 $ 290 $ 346.30 + 21.0% 



Median Family Income 



* Projected 

Source: New York Times and Official Airline Guide 



131 

Exhibit 3 



AVERAGE FARH PER PASSENGER MILE 
INDEX 1938=100 
(Constant Dollars)-' 




1/ Deflated by Implicit Deflator - GNP, Adjusted to 1938 Base. 
2/ 1974 Data for First Nine Months. 



132 



Exhibit 4 
AVERAGE AIR FREIGHT RATES PER TON MILE 

DOM' S lie OPICRATIONS 
U. .^^riTT'TJUT.TTi" AiU i.lNI'S 
(1940 Constant Dollars)I7 



AVERAGE 
REVENUE 
PER TON 15 
MILE 



\ I j ' ' 



1960 
YEAR 



1/ Deflated by Implicit Deflator - GNP, Adjusted to 1946 Bas 
2/ 1974 Yield for First Nine Months. 



133 

Exhibit 5 

DISTRIBUTION OF TRUNK AIRLINES SCHEDULED COACH FARES 
YEAR ENDED SEPTEMBER 30, 1974 
48 STATE DATA 



Revenue Passenger 
Fare Type Miles (OOP, OOP) 

TOTAL FULL FARE 

TOTAL DISCOUNT 

Youth Standby 

Youth Reservation 

Family 

Discover America 

Military Standby 

Military Reservation 

Group 

Child 

Excursion 

Other 
TOTAL 95,820 100.0 6.99 

Source: Monthly carriers submission to the Civil Aeronautics Board. 



65 


, 132 


30 


,688 




121 




797 


6, 


, 598 


3, 


,957 




738 


2, 


.555 


1, 


372 


1, 


683 


1, 


18P 


11, 


687 


95, 


820 



Percent of 
Total 


Yield 
(C per RPM) 


68.0 


7.59 


32.0 


5.71 


0.1 


6.12 


0.8 


6.97 


6.9 


6.88 


4. 1 


5.75 


0.8 


3.80 


2. 7 


5.32 


1.4 


5.77 


1.8 


4.76 


1.2 


5.59 


12.2 


5.30 



134 

Exhibit 6 

INCOME CHARACTERISTICS OF ADULTS 
WHO HAVE FLOWN ON REGULAR PASSENGER AIRLINE 



Percent Within Each 
Income Group Who 
Annual Have Flown During 
Family Income Past 12 Months 



Percent of Adults Making 
One or More Air Trips 
During Past 12 Months 
By Income Group 



$15, 000 and over 41 

$10,000 - $14, 999 22 

$ 7, 000 - $ 9,999 16 

Less than $7,000 15 



46 



24 



18 



Undesignated 



TOTAL 



100 



Source: The Gallup Organization, Inc. , The Incidence of 
Air Travel Among the General Public. 1974 



135 

Exhibit 7 

1974 LOAD FACTORS 
NON-STOP SERVICES -- BOSTON-DETROIT MARKET 

Load Factor 

(%) 

January 54 

February 53 

March 58 

April 64 

May 67 

June 67 

July 58 

August 63 

September 59 

October 59 

November 53 

December* 52 

Average 59 

"^ Estimated 

Source: Company records of carrier. 



136 

Exhibit 8 

DISTRIBUTION OF AIRLINE 
PASSENGER TRAFFIC BY NUMBER 
OF CITY PAIRS 
(Year Ended June, 1974) 

Percent of Total Number of 

Passenger Miles City Pairs 

10% 7 

20% 30 

30% 70 

40% 145 

50% 272 

60% 494 

70% 908 

1/ 
100% 58,000 (Approx.) 



1/ Includes markets partially served by commuter 
airlines when a part of a trip for which a certifi- 
cated carrier sells the ticket. 

Source: CAB, Origin-Destination Survey of Airline 
Passenger Traffic - Domestic ^ Second 
Quarter 1974. 



137 

Exhibit 9 

PERCENT OF TRANSPORTED PASSENGERS WHO ARE . 
NOT THROUGH OR CONNECTING, BY FLIGHT DISTANCES -^ 
(For City Pairs with Non-Stop Service) 



Mileage 



All Mileage 43.4 

Less than 100 miles 9.6 

100 to 199 miles 25.6 

200 to 299 miles 39.0 

300 to 399 miles 44.1 

400 to 499 miles 43.0 

500 to 599 miles 43.8 

600 to 699 miles 51.3 

700 to 799 miles 50.2 

800 to 899 miles 54.1 

900 to 999 miles 60.8 

1, 000 to 1, 499 miles 75.2 

1, 500 to 1, 999 miles 55.8 

2. 000 miles and over 92. 1 



1/ Excludes city pairs with fewer than 2, 500 

nondirectional O&D passengers (approximately 
6.8 per day). 

Source: CAB, the Domestic Route System; Analysis 

and Policy Recommendations, October, 1974. 



138 

Exhibit 10 

ATA AIRLINE COST INDEX 
U.S. TRUNKS AND LOCAL SERVIC^ CARRIERS 
3 Qtr. 1974 



INDEX 
(1967=100) 

LABOR 192.4 

(Employment Cost 
Per Employee) 

CAPITAL 153.7 

(Interest on Long Term Debt) 

FUEL 250.9 

(Cost Per Gallon) 

PA SSE NGER FOOD 125.3 

(Cost Per Revenue 
Passenger Mile) 

ADVERTISING & PROMOTION 92. 1 

(Cost Per Revenue Ton Mile) 

LANDING FEES 229.2 

(Cost Per Aircraft Ton Landed) 

AIRCRAFT MAINTENANCE 
MATERIALS 91.8 

(Cost Per Available Ton Mile) 

TRAFFIC COMMISSIONS- 
PASSENGER 199.3 
(Cost Per Revenue 
Passenger Mile) 

ALL OTHER 146.5 

(Implicit Deflator - GNP) 

COMPOSITE 174.5 



Percent 
Change Over 
3 Qtr. 1973 

7.3 



102.3 



i.5 



( 2.9) 



17. 



10.4 



Percent of 
Total Cash 
Operating 
Expensesi .' 

40.7 



3.3 

18.9 

3.6 



2.5 



2.9 



22.2 



100.0 



1/ Total Operating Expenses plus Interest on Long Term Debt 
~ Less Depreciation and Amortization. 



139 

ATA STUDY ON DEREGULATION 

[In a letter dated February 7, 1975 the chairman of the subcommittee 
made more explicit a request of Dr. James for a list of routes that would 
be eliminated under more competitive conditions. On April 3, 1975 
the Air Transport Association submitted to the subcommittee a reply 
extending more than 200 pages. The chairman then requested evalua- 
tions of this ATA study from the U.S. Department of Transportation, 
the Council of Economic Advisers, the Council of Wage and Price 
Stability, the General Accounting Office, Prof. John W. Drake, Purdue 
University, Prof. Theodore E. Keeler, University of California at 
Berkeley, Prof. Sam Peltzman, University of Chicago, Prof. Roger 
Sherman, University of Virginia, and Prof. Andrew Whinston, 
Purdue University. Their replies follow the ATA study in that order, 
p. 379 ff., below except that the replies of DOT and GAO are printed 
at the end of the record of the day of hearings of March 4, 1975, p. 
2285 ft'., below, because they were received too late for inclusion here.] 

U.S. Senate, 
WasJimffton, B.C., February 7, 1975. 
Mr. George W. James, 
Air Transport Association, 
Washington, B.C. 

Dear Mr. James : Thank you again for appearing before the Subcommittee on 
Administrative Practice and Procedure last Thursday. Your testimony and state- 
ment were very lielpful. 

As I mentioned at the hearing I should appreciate receiving further detailed 
specific factual information from you concerning the following questions : 

1. You expressed a fear that under a more competitive system, airlines might 
abandon unprofitable routes, severely curtailing service to many communities. 
Would you please provide a list for us of those city-pairs that are now unprofit- 
able and might be abandoned. In preparing that list, you should specify those 
city-pairs of which the cost of serving exceeds the incremental revenues generated. 
I ask that you proceed on an incremental cost basis because I believe that, in 
competitive industries, services and products are provided so long as incremental 
revenues exceed incremental costs. Of course, if you wish to proceed on some other 
accounting basis, please feel free to do so (but I should then appreciate an 
appropriate explanation). 

2. It may be that the "feeder" line argument you made in your testimony 
amounts to more than a simple cross-subsidy argument. If so, will you please 
explain it more fully and provide empirical support ? 

3. It has also been argued that a competitive airline system (of the sort DOT 
suggested) would be a less safe system. If you hold this view, would you please 
provide documentary support for it? 

We should very much appreciate receiving this information before our last 
hearing day on March 4. as we shall then begin to write our report. 
Thank you very much. 
Sincerely, 

Edward M. Kennedy, 
Chairman, Subcommittee on Administrative Practice and Procedure. 



Air Transport Association of America, 

Washington, D.C., April 25, J 97 5. 
Hon. Edward M. Kennedy, 
U.S. Senate, 
Washington, B.C. 

Dear Senator Kennedy : During my testimony to your Subcommittee on Ad- 
ministrative Practice and Procedure, and subsequently by letter, you requested 
specific information on the impact of deregulation on the present scheduled air 
transportation network. You asked us to identify present scheduled routes where 



140 

service might be reduced or eliminated if each airline could set its own prices and 
could enter or exit any market at will. Additionally, you requested further ex- 
planation of the "feeder line" argument and some comments on safety under 
deregulation. 

The attached report represents the results of the analysis that ATA performed 
in response to your requests, and includes the application of a computerized 
analysis of the large interrelated domestic trunk carrier system. We believe this 
information may represent the first aggregate analysis of its kind. Results of 
the analysis reveal the adverse impact on scheduled air service that might take 
place under the assumption of total deregulation that we were asked to make. 

As we have discussed with members of your staff, our analysis shows that 
under deregulation scheduled air service might be eliminated or substantially 
reduced on 1,820 nonstop routes throughout the nation. A list of these routes is 
attached. The 1,267 nonsubsidized routes of the regional carriers were not in- 
cluded in this study. 

Currently, trunk carriers serve 994 nonstop routes. Of these, 372 could be 
candidates for elimination under deregulation, while nearly all of the remaining 
622 could experience sharp curtailment of service. Although a similar analysis 
has not been applied to the regional carriers, we have identified S26 of their non- 
stop routes as currently receiving direct subsidy under regulatory procedures. 

It is conceivable that the 1,198 unprofitable, and subsidized, routes might not 
survive in a deregulated environment except in limited instances as an adjunct 
to more profitable routes or under large subsidy payments by cities or the Federal 
Government. 

Enclosed are maps of each of the 48 contiguous states and the District of Co- 
lumbia with an identification of each of the routes that could be jeopardized as 
well as a tabular listing of these routes. 

Although each of the 1,198 routes would be a candidate for elimination under 
deregulation, it is recognized that some might be held for such reasons as feed- 
ing heavier travelled routes or aircraft positioning. Some also might be served 
by smaller commuter airlines. However, where such routes would remain, there 
would be a service instability not present today because carriers would view these 
routes as marginal and would probably move in and out as circumstances dictated. 

Our analysis has also been extended to determine the impact on levels of serv- 
ice in a situation where significant fare reductions are made. We have done this 
for the domestic trunk system. The findings show, for example, that where fares 
are reduced 20 percent, the unprofitable routes rise from 372 to 564. 

Some have contended that deregulation could occur while subsidy remained. 
In contrast with today's subsidy level of less than $70 million for regional car- 
riers only, we estimate that subsidy costs under deregulation could run as high 
as $1 billion annually. 

The analysis you requested has produced data shedding new light on load 
factors. The analysis shows, for example, that to raise the average system load 
factor from 55-60 percent, solely by eliminating the lowest load factor routes, 
could require dropping as many as 144,000 monthly flights, or 37 percent of all 
flights flown. If eliminating unprofitable routes were the only criteria for raising 
load factors, the data show that approximately 20,000 monthly flights, or 9 per- 
cent of the route system, would need to be abandoned. 

One final point of interest in the analysis is that 33 of the largest 100 markets 
of the scheduled carriers had load factors in the 60-85 percent range. PSA's load 
factor on the Los Angeles/San Francisco route during this time period was 60.9 
percent. Similarly, if interstate scheduled carriers served only the 33 interstate 
high load factor routes, they could operate more profitably and at lower fares. 
However, service in the present U.S. 58,000 city-pair network would be shattered. 

We appreciate this opportunity to present relevant information regarding the 
public service impact of deregulation. We had hoped that this information will 
be reflected in the Subcommittee's report. 
Sincerely, 

George W. James, 
Senior Vice President-Economics and Finance. 

Attachment. 



141 



CONSEQUENCES OF DEREGULATION 
OF THE SCHEDULED AIR TRANSPORT INDUSTRY 

An Analytical Approach 



S 



A study in response to questions posed by the 
Chairman, Senate Judiciary Subcommittee 
on Administrative Practice and Procedure 

conducted by 
The Air Transport Association of America 



APRIL. 1975 



143 



TABLE OF CONTENTS 



Question No. 1 



From the Subcommittee Chairman, regarding 

abandonment of unprofitable routes 1 



Question No. 2 



From the Subcommittee Chairman, regarding 

"feeder" lines and cross subsidy 10 



Question No. 3 



From the Subcommittee Chairman, regcirding 

the effect of deregulation on safety 12 



Indirect Cost Factor Derivation 
(Including Designation of Marginal Cost Elements) 



Exhibit B 



U.S. Scheduled Airline 

1973 Routes (city-pairs) Risking 

Loss of Service as a 

Consequence of Deregulation 

(In Order from the Least to 

the Most Unprofitable) 



City-Pairs Risking Loss of Service 
By State 



City-Pairs Risking Curtailment of Service 
By State 



144 



CONSEQUENCES OF DEREGULATION - AN ANALYTICAL APPROACH 



Question No. 1 
From the Subcommittee Chairman 



"You expressed a fear that under a more competitive 
system airlines might abandon unprofitable routes, 
severely curtailing service to many communities. 
Would you please provide a list for us of those city 
pairs that are now unprofitable and might be abandoned. 
In preparing that list, you should specify those city 
pairs of which the cost of serving exceeds the incre- 
mental revenues generated. 1 ask that you proceed on 
an incremental cost basis because 1 believe that, in 
competitive industries, service and products are pro- 
vided so long as incremental revenues exceed incremental 
costs. Of course, if you wish to proceed on some other 
accounting basis, please feel free to do so (but I should 
then appreciate an appropriate explanation). 



There are several significant ways to examine incremental revenue 
and incremental cost on the U. S. domestic airline system, including: 

1. Use of macro-theoretical models of the airline industry; 

2. Examination of past experience with unregulated airline markets; 

3. Employment of a detailed analytical framework that simulates 
each element of the actual airline system. 

The first approach (use of macro-theoretical models), though perhaps 
intellectually elegant, has the disadvantage that it cannot be validated -- 
conclusions cannot be tested against reality. Policy recommendations based 
on this approach are extremely risky, because results of an altered air trans- 
port system could easily be quite different from those predicted by the model 
builders, and costs to rectify unforeseen consequences could be enormous. 

The second approach (examination of past experience) is limited by 
the paucity of such experience: the pre- 1938 era in the United States, or the 
pre- 1965 era of intra- California air transport. While the chaos experienced 
in both periods represents a useful point of comparison with the current 
stable regulated environment nationally and in California, in many respects 
both periods are incomplete for current analogy. 



145 



The third approach, involving a detailed route-by-route examination 
of the existing system, has been chosen as the best way to meet the short- 
comings of the other two approaches. ATA, utilizing an existing computer 
simulation*, has analyzed the entire domestic trunk industry for the 48 
contiguous states for 1973. Broad conclusions of the study show that, of 
the 994 trunk non-stop routes, 622 were profitable and 372 (or 37%) were 
unprofitable. The 372 unprofitable routes are prime candidates for aban- 
donment under deregulation, recognizing that some of them might be retained 
for such purposes as providing feeder service and positioning of aircraft. 
Some also might be served by smaller commuter airlines. 

In contrast. United Airlines, in a letter to the Chairman of the Senate 
Subcommittee on Administrative Practice and Procedure, pointed out the 
results of a similar analysis on its route system showing 50% of its non-stop 
routes were unprofitable. 



Airline System Simulation 

A computer program known as the Airline System Simulation, which 
was developed by and is the property of the Lockheed Aircraft Corporation, 
was used in producing a substantial portion of the results of this report. 

The Airline System Simulation is the result of extensive research in 
concepts and methods, many discussions with airline representatives, and 
participation by one major trunk airline. It has been used in studies for air- 
lines, the United States Government, and Lockheed. These studies have 
included investigations of the compositions of fleets, the assignment of flights, 
the economics of the supersonic transport (SST), and the design of the L-1011. 

The simulation has been in continuous use since 1961. It is important 
to note that no changes were made in the Lockheed model in order to perform 
the simulation of this study. 

The srnulation is a comprehensive program that gives explicit 
consideration to such concepts as mixed aircraft types on a route, route 
interaction, and generation and allocation of demand, all of which are ex- 
plained in detaL in the attached booklet on the Lockheed Simulation Model. 

Figure 1 is a summary of the concepts used in the model. 



* The Lockheed Airline System Simulation, booklet attached. 



51-146 O - 76 



146 




MAXIMUM EARNINGS 

• COMPETITION 

• REGULATION 



FLISHT ASSIGNMENT & 
FLEET COMPOSITION 



AIRLINE SYSTEM SIMULATION - SUMMARY 



Data Used and Comparative Results 

Virtually all of the 48 state scheduled domestic trunk passenger 
airline system for the calendar year 1973 was used in this study. 994 non- 
stop route segments were included in the simulation. Where both trunk and 
regional airlines serve the same segment, their traffic is included in the 
segment total. 

The following types of aircraft were used in the study as representa- 
tive of the actual fleet mix in 1973: 



B-747 

L-lOll/DC-10 

DC-8-61 

B-707-300B/DC-8 

B-727-200 

DC-9-30/B-737 

DC-9-10 



147 



Since all passenger aircraft carry significant amounts of cargo, 
this source of revenue and cost was included in the study. CAB Form 41 
data were converted to an average amount of cargo per passenger. These 
data ranged from 42 pounds per passenger in the B-747 to 27 pounds per 
passenger in the DC-9-10. The overall domestic cargo yield for U.S. 
trunk carriers in 1973 of 25.6 cents per ton mile was used. All-cargo 
aircraft are not included in the study. 

This simulated representation captured 97.8 per cent of the revenue 
passenger miles as reported in Form 41 to the Civil Aeronautics Board (CAB). 
The remaining RPM's were contained in seasonal markets (those served less 
than ten months per year) and flight diversions due to weather or equipment 
problems. 

As additional points of comparison, a yield of 6. 37 cents per :-evenue 
passenger mile was achieved from the simulation. This compares favorably 
with the CAB Form 41 figure of 6. 38 cents. The average flight segment 
length produced by the simulation was 580 statute miles. The CAB Form 41 
data reports 577. 



Methodology Employed 

The Lockheed Airline System Simulation operates through a sequential 
process of adding flights to the system by following much the same logical pro- 
cess employed by airline planning staffs in developing their schedule plans. 
Development of a schedule plan begins with the initial assumption of no flight 
operations and no aircraft, but with a set of possible routes on which to use 
the aircraft. The economic impact of each possible aircraft/route combina- 
tion is examined in sequence as shown in Figure 2 . Initially, determination 
is made of the individual increments of passenger operating revenue and 
operating costs which would result from adding a flight to each possible route- 
with each possible aircraft type. The flight addition that would produce the 
greatest difference between the increment of revenue and increment of cost 
is then added to the system. This process is iterated each time through the 
994 route segments before a flight is added. 

The costs used in the flight selection process consist of only those 
costs directly affected by the addition of a single flight ( Figure 3 and Exhibit A ). 
However, the total costs of operating at any given scale of operation consist 
of the marginal costs plus those other costs that are affected only by an over- 
all scale of operations, i.e.. system costs. * Therefore, after each flight 
addition is made on the basis of marginal costs, total operating costs are 
adjusted to include the additional system costs. 



* In the context used here marginal and system costs equal fully 
allocated or total costs. 



148 




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149 




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150 



FIGURE 3 

MARGINAL COSTS 

Flight Crew Cabin Attendant Salary 
Fuel and Oil and Related Expense 

Direct Maintenance Other Passenger Services 

Insurance Aircraft Handling 

Depreciation Aircraft Control 

Local Expense Landing Fees 

Labor - Ground Prop. & Equip. Passenger Handling 

Labor - Other Services Baggage Handling 

Maintenance Materials Passenger Commissions 
Food and Beverages 



The selection and updating process is continued until no flight, either 
in the form of an added frequency on a route already selected for service or 
a first flight on a route as yet unserved, can be added to the system and pro- 
duce an increment of revenue greater than the required increment of marginal 
cost. Thus, at this point, the system consists only of those services that will 
produce a maximum operating profit. 

An examination of the composition of the system as it would exist at 
maximum operating profit requires several important observations: 

1. No airline presently operates at or near this point; 

2. Load factors at this point would be about 80%. Therefore, large 
numbers of people desiring service during peak periods of the 
day, week, and season would be unable to travel by air; 

3. Many routes that are now being served would receive no service; 

4. Many other routes would receive less frequent service than 
currently provided. 



Results of ATA Study 

Application of the Model . 

The simulation model produces an ordered list of non-stop routes 
served, starting with the most profitable route/aircraft combination, and 
adding flights until all profitable flights are listed in decreasing order of 
profitability. The simulation then continues to list unprofitable flights, 
starting with the least unprofitable and proceeding to the most unprofitable. 



151 



From this listing, it is possible to construct a graph of system 
earnings versus number of flights (Figure 4 ), depicting the earnings per 
day for each level of service. Figure 4 shows that, as more and more un- 
profitable flights are added to the system, daily earnings and load factors 
decrease. 

Figures 5A, 5B, 5C, and 5D depict the U.S. trunk 48-state system, 
divided into four subsystems employed in the simulation, and Figure 6 repre- 
sents the 372 currently served non-stop trunk routes identified by the simulation 
as unprofitable and consequently risking loss of service in the event of deregu- 
lation. These 372 unprofitable routes are tabulated in Exhibit B. Figure 7 
sets forth the 826 subsidized regional carrier markets that would also risk 
loss of service in a deregulated environment. 

Thus, in the event of deregulation, routes appearing in Figures 6 and 
7 can be considered as prime candidates for abandonment. Not included are 
other unprofitable markets currently served by regional carriers and not 
eligible for subsidy. 

Exhibit C presents the unprofitable and subsidized routes on a state- 
by-state basis. 

Exhibit D lists all profitable routes in the trunk system, showing the 
reduced level of service that might be experienced with a maximum earnings 
objective. 

Effect of Fare Reductions 



In addition to consideration of the system under 1973 fare levels, the 
analysis was extended to explore conditions where these levels were reduced 
10 and 20%. 

Results of running those two hypothetical cases are shown in Figi. 



The upper curve is identical to Figure 4, indicating the results of 1973 opera- 
tion at 1973 yields. Other curves show the results which could have been 
expected in 1973 if fares had been reduced 10% and 20%, respectively. 

Figure 9 demonstrates these results in tabular form --as fares 
decrease, the maximum earnings and number of profitable flights are lower. 
Further, if fares were reduced 10%, there would be an increase in the number 
of unprofitable routes from 372 to 471. In the case of 20% fare reduction, un- 
profitable routes rise from 372 to 564. 



152 





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FIGURE 9 






SOME EFFECTS OF REDUCED FARES 






Maximum 


Number of 


Number of 






Daily 


Profitable 


Unprofitable 


Yields 




Earnings 
(Millions) 


Flights 


Non-Stop Routes 


1973 Yields 


$5.5 


2.500 


372 


10% Reduct 


:ion 


4.3 


2.170 


471 


2 0% Reduction 


3.1 


1,978 


564 



In making these simulation runs, it was assumed that elasticity of 
demand was -1.2. This figure is the assumption for discount fares only 
adopted by the Civil Aeronautics Board in its computation of the adjusted 
return on investment. The CAB elasticity factor for all fares, however, was 
-0. 7. For purposes of this analysis only, to test the hypothesis that a dis- 
proportionate increase in demand would still reduce service, it is assumed 
that a 10% decrease in fares would result in a 13% increase in demand, and 
a 20% decrease would result in a 31% increase in demand. * 

The results of examining the system at 10% and 20% yield reduction 
show that lowering of fares, for example, by new competitors free of regula- 
tory restraint, would increasingly result in economic pressures to abandon 
unprofitable routes. Further, the number of candidates for discontinuation 
of service increases as fares decrease. 

Load Factors 

It should be emphasized that the ATA study demonstrates that achieve- 
ment of high load factors is not necessarily consistent with a high level of 
service to communities across the nation. For example, two ways of achieving 
higher system load factors would be to remove service to those communities 
with the lowest load factors and/or abandon unprofitable routes. 

• Abandonment of lowest load factor flights . In order to determine the 
impact of this method of raising system load factors from 55% to 60%, 
ATA arrayed all flights for August, 1973, from lowest to highest load 
factors, using segment data (ER-586) for trunk and local service air- 
lines. Figure 10 is a summary of these data. 

System load factor for that month was 55, 7%. In order to raise the 
system load factor to 60%, it would have been necessary to eliminate 
144.000 flights during the month, or 37% of all flights ( Figure 11 ). 



This uses the CAB calculation of elasticity impact. 



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162 



ANALYSIS OF FLIGHT/SEGMENT LOAD FACTORS 

U.S. Certificated Airlines 

48 State Services 

August, 1973 



Number of Flights Requiring Elimination From Lowest Load 
Factors to Raise System Average From 55. 7% to: 





Number 


Percent 


Highest 




of 


of All 


Load Factor 




Flights 


Flights 


Remaining 


60% 


144.000 


37.0 


49.3% 


65% 


226.000 


58.1 


56.0% 


70% 


296.000 


76.1 


62.2% 


75% 


340.000 


87.3 


6 7.5% 


80% 


365.000 


93.7 


7 3.2% 



Notes: (1) Average load factor for the segment is used for 
each flight flown on that segment. 

(2) Segments with less than four services per month 
not included. 



163 



The remaining system would exclude flights for which the average 
monthly load factor was 49.3% or less. To raise the system load 
factor to 65%. a total of 226,000 flights (or 58. 1% of all flights) 
would have had to be eliminated. At 65% load factor, flights with 
average monthly load factor of 56% or lower would be eliminated. 

These data do not take into account the fact that some of the traffic 
on discontinued flights would be diverted to other flights. Some 
segments, however, would lose all service. 

An illustration of a typical monthly distribution of load factors is 
shown in Figure 12 , using the August, 1973 data. 

• Abandonment of the most unprofitable flights . Use of the Lockheed 
Airline System Simulation makes it possible to determine the impact 
of raising load factors by eliminating the most unprofitable flights. 
If trunk airlines were to pursue this policy alternative, approximately 
20,000 monthly flights, or 9% of total trunk service, would be aban- 
doned in order to raise load factors to 60%. 41, 000 monthly flights 
would be eliminated to reach a 65% load factor. 

A significant consideration with respect to the impact of high average 
load factors on public service is the problem of unserved demand. Experience 
with airline reservations systems makes it clear that some passengers cannot 
obtain confirmed reservations on flights that finally depart with 80% load 
factors. This phenomenon results from the practice of passengers booking 
reservations and failing to cancel if the reservations are not used. In this 
case other passengers will have been turned down because the flight appeared 
to be fully booked. During peak vacation periods, this situation is particularly 
acute. 

Previous analysis has shown that increasing average load factors would 
result in curtailment of service. But average load factors do not fully account 
for the extent to which the public is inconvenienced. Examination of actual 
monthly flight load factor data, in a special ATA study, shows that, even with 
average route load factors' as low as 40%, many individual flights on these 
routes carry load factors in the 70 to 90% range. This means that, at certain 
times of the day and on certain days of the week, hundreds of passengers are 
turned away on flights of their choice even though, on the average for the 
month, 60% of the seats in the system are empty. Demand is highly peaked 
by hour of the day, by day of the week, by season, and by direction. 

These findings demonstrate that passengers must forego travel or 
change their plans to travel at less convenient times even when load factors 
are at a system average of 55%. 



164 



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Conclusions 

Currently U.S. scheduled trunk and regional carriers serve 3,087 
non-stop routes which link 58,000 city pairs throughout the U.S. Of these, 
1. 158 (or 37.5%) are unprofitable and risk abandonment under deregulation. 
Nearly all of the remaining 1,929 routes might well experience significant 
reduction in service. 

Where certain of the unprofitable or subsidized routes might be held 
for such purposes as providing feeder traffic, aircraft positioning, or market 
growth, or might be served by smaller commuter airlines, these routes could 
be subject to instability not present today, since carriers would be competing 
for them as marginal routes and would move in and out as current circum- 
stances dictated. 

Attempting to subsidize these routes, to try to maintain today's level 
of service, could require as much as a billion dollars. 

Further, raising average system load factors has a public service 
penalty attached to it. Most particularly, this occurs with an increase in 
denied service during certain daily, weekly, and monthly peak periods. 

Accordingly, as this study demonstrates, under a deregulated system 
the level of service available to the public could be markedly reduced. 



166 



Question No. 2 
From the Subcommittee Chairman 



"it may be that the 'feeder' line argument you 
made in your testimony amounts to more than 
a simple cross subsidy argument. If so, will 
you please explain it more fully and provide 
empirical support? 



As the question implies, the concept of cross subsidization* appears 
simple at first glance. In practice it is complex, and the variety of attitudes, 
beliefs, and opinions on the subject reflected in the testimony before the 
Subcommittee amply demonstrate that complexity. 

The single essential point that must be understood is that a form of 
cross subsidy begins when a system exists with only one non-stop route. 
Costs of operating a route vary by time of day, season of the year, weather 
conditions, and by many other factors. Thus, to completely eliminate the 
effect of cross subsidization is not possible on one non-stop route in each 
system, let alone on an entire system. 

The efficient deployment of aircraft and other airline resources 
across the national air transportation network requires their use on a com- 
bination of non-stop, multi- segment, and connecting routes where the optimum 
application of resources is normally not possible. For example, an aircraft 
can seldom be operated on the optimum distance for which it was designed. 
When it is, however, per mile costs are less than on its other routes, and 
a form of cross subsidy occurs. 

As ATA reported in its February 6 testimony before the Subcommittee, 
the national air transportation system is comprised of many connecting and 
through flights, constituting a network of service throughout the 58, 000 city 
pairs served by scheduled airlines. These connecting and one-stop and multi- 
stop flights exist in part because segments (connecting or through) that may 
be individually unprofitable can be combined to make a total profitable flight. 
Consider three cities -- A, B, and C -- and suppose that traffic between 
each of the three pairs (AB, BC, AC) is too light to justify even a single 
daily flight. If, however, one flight is operated from A to B to C. the seg- 
ment from A to B may still be unprofitable but the segment from B to C, 
bolstered by traffic from A destined for C, may now be profitable enough to 
make the flight as a whole profitable. In such a situation, it could be said 
that passengers destined from B to C subsidize passengers destined from 
A to B. But what about passengers destined from A to C? They are 
"recipients" on one segment (A to B) and "donors" on the other (B to C). 



Sometimes viewed as "internal subsidization 



167 



Availability of a high degree of scheduled frequency to communities, 
large, medium, and small in terms of population across the nation, is un- 
paralleled in the world. The operation of this network, however, requires 
a high percentage of multi-stop and connecting flights. Approximately 70% 
of scheduled carrier operations involves multi-stop flights. 

Every passenger or shipper using the comprehensive, integrated 
system receives a clear economic benefit flowing from that system -- the 
ability of anyone to get almost anywhere in the country on a regularly 
scheduled basis, on business, on personal emergency, or for any other 
reason. 

The effect of cross subsidy, therefore, is to render operable an 
essentially self-supporting, comprehensive, integrated national air trans- 
portation system. Without it, that system would disintegrate. If the many 
smaller or medium sized communities now receiving service through con- 
necting or through flight feeder operations are to receive adequate service, 
absent the present self-supporting system self-financed by cross subsidy, 
large direct subsidies would be required in order to provide service at the 
levels now available. 



168 



Question No. 3 
From the Subcommittee Chairman 



"it has been argued that a competitive airline 
system (of the sort DOT suggested) would be a 
less safe system. If you hold this view, would 
you please provide documentary support for it? 



The impact of deregulation on safety is not susceptible to ready 
measurement and one cannot predict with certainty what that impact might 
be. 

In light of the consequences of the operation of a less stable air 
transport industry resulting from deregulation and related shifts in service 
patterns, one must presume that the Federal Aviation Administration would 
continue to take all actions necessary in the public interest to assure the 
highest possible level of safety for all operations within its statutory 
jurisdiction. 



EXHIBIT A 

INDIRECT COST FACTOR DERIVATION 
(INCLUDING DESIGNATION OF MARGINAL COST ELEMENTS) 



170 





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171 



EXHIBIT B 



U. S. SCHEDULED AIRLINE 
1973 ROUTES (CITY-PAIRS) RISKING 

LOSS OF SERVICE AS A 

CONSEQUENCE OF DEREGULATION 

(IN ORDER FROM THE LEAST TO 

THE MOST UNPROFITABLE) 



172 



Page 1 



1. 


ATL-CAE 


2. 


MCO-MIA 


3, 


JAN- MS Y 


4. 


PBI-TPA 


5. 


DSM-STL 


6. 


ABE-CLE 


7. 


GFK-MSP 


8. 


PHF-WAS 


9. 


CHS-JAX 


10. 


CMH-PIT 


11. 


BAL-NYC 


12. 


BOI-SLC 


13. 


DAL-IAH 


14. 


JAX-TPA 


15. 


ABE- WAS 


16. 


ATL-TYS 


17. 


DAL- SAT 


18. 


BNA-TYS 


19. 


CLE-CVG 


20. 


DTW-MKE 


21. 


CRW-CVG 


22. 


CRW-PIT 


23. 


LEX-TYS 


24. 


ATL-AVL 


25. 


EVV-STL 


26. 


CHS-CLT 


27. 


MCI-STL 


28. 


PHX-SAN 


29. 


CMH-DTW 


30. 


ALB-NYC 


31. 


LIT-MEM 


32. 


ORD-STL 


33. 


IND-STL 


34. 


DTW-IND 


35. 


DSM-MSP 


36. 


MCO-PBI 


37. 


CLE-SBN 


38. 


ORE- WAS 


39. 


DTW-ORD 


40. 


EVV-IND 



Tex. 



Tex. 



Atlanta, Ga. 

Orlando, Fla. 

Jackson/Vicksburg, Miss, 

West Palm Beach, Fla. 

Des Moines, Iowa 

Allentown, Pa. 

Grand Forks. N. D. 

Newport News, Va. 

Charleston. S. C. 

Columbus, Ohio 

Baltimore, Md. 

Boise, Id. 

Dallas/ Ft. Worth, 

Jacksonville, Fla. 

Allentown. Pa. 

Atlanta. Ga. 

Dallas/ Ft. Worth. 

Nashville, Tenn. 

Cleveland, Ohio 

Detroit, Mich. (Metropolitan) 

Charleston, W. Va. 

Charleston, W. Va. 

Lexington, Ky, 

Atlanta, Ga. 

Evansville, Ind. 

Charleston. S.C. 

Kansas City. Mo. 

Phoenix. Ariz. 

Columbus. Ohio 

Albany. N.Y. 

Little Rock, Ark. 

Chicago, 111. (O'Hare) 

Indianapolis, Ind. 

Detroit, Mich. (Metropolitan) 

Des Moines, Iowa 

Orlando, Fla. 

Cleveland, Ohio 

Norfolk. Va. 

Detroit, Mich. (Metropolitan) 

Evansville, Ind. 



Columbia, S.C. 

Miami. Fla. 

New Orleans. La. 

Tampa, Fla. 

St. Louis, Mo. 

Cleveland, Ohio 

Minneapolis/St. Paul. Minn. 

Washington. D.C. 

Jacksonville. Fla. 

Pittsburgh. Pa. 

New York, N.Y. 

Salt Lake City, Utah 

Houston, Tex. 

Tampa, Fla. 

Washington, D.C. 

Knoxville, Tenn. 

San Antonio, Tex. 

Knoxville, Tenn. 

Cincinnati. Ohio 

Milwaukee. Wis. 

Cincinnati. Ohio 

Pittsburgh. Pa. 

Knoxville. Tenn. 

Asheville, N.C. 

St. Louis, Mo. 

Charlotte, N.C. 

St. Louis, Mo. 

San Diego, Calif. 

Detroit, Mich, (Metropolitan) 

New York, N.Y. 

Memphis. Tenn. 

St. Louis. Mo. 

St. Louis, Mo. 

Indianapolis. Ind. 

Minneapolis/St. Paul. Minn, 

West Palm Beach. Fla. 

South Bend. Ind. 

Washington. D.C. 

Chicago, 111. (O'Hare) 

Indianapolis, Ind. 



173 



Page 



41. 


DAL-TUL 


42. 


CLE-IND 


43. 


BUF-SYR 


44. 


AGS-ATL 


45. 


CVG-ORD 


46. 


NYC-PVD 


47. 


IND-ORD 


48. 


ATL-MGM 


49. 


DAY-ORD 


50. 


GEG-GTF 


51. 


NYC-ORH 


52. 


BOI-GEG 


53. 


MCI-TUL 


54. 


MCI-SGF 


55. 


CLE-GRR 


56. 


IND-SDF 


57. 


PHL-WAS 


58. 


ATL-GSP 


59. 


lAH-SAT 


60. 


FSM-LIT 


61. 


JAN-MLU 


62. 


MIA-MLB 


63. 


MBS-ORD 


64. 


JAX-TLH 


65, 


CVG-SDF 


66. 


CLT-RDU 


67. 


DAY-DTW 


68. 


CID-ORD 


69. 


MOB-MSY 


70. 


ATL-BHM 


71. 


SBA-SFO 


72. 


RDU-RIC 


73. 


CLE-FWA 


74. 


BNA-SDF 


75. 


MLI-OMA 


76. 


DAL-OKC 


77. 


BAL-RDU 


78. 


ELP-TUS 


79. 


JAX-MCO 


80. 


A US -DAL 



Dallas/ Ft. Worth. Tex. 

Cleveland, Ohio 

Buffalo, N.Y. 

Augusta, Ga. 

Cincinnati, Ohio 

New York, N.Y. 

Indianapolis, Ind. 

Atlanta, Ga. 

Dayton, Ohio 

Spokane, Wash. 

New York, N.Y. 

Boise, Id. 

Kansas City, Mo. 

Kansas City, Mo. 

Cleveland, Ohio 

Indianapolis, Ind. 

Philadelphia, Pa. 

Atlanta, Ga. 

Houston, Tex. 

Ft. Smith, Ark. 

Jackson/ Vicksburg, Miss. 

Miami. Fla. 

Saginaw, Mich. 

Jacksonville, Fla. 

Cincinnati, Ohio 

Charlotte, N.C. 

Dayton, Ohio 

Cedar Rapids /Iowa City, la. 

Mobile, Ala. 

Atlanta, Ga. 

Santa Barbara, Calif. 

Raleigh/ Durham, N.C. 

Cleveland, Ohio 

Nashville, Tenn. 

Moline, HI. 

Dallas/ Ft. Worth. Tex. 

Baltimore, Md. 

El Paso. Texas 

Jacksonville, Fla. 

Austin, Tex. 



Tulsa, Okla. 
Indianapolis, Ind. 
Syracuse, N.Y. 
Atlanta, Ga. 
Chicago, 111. (O'Hare) 
Providence, R.I. 
Chicago, 111. (O'Hare) 
Montgomery, Ala. 
Chicago, 111. (O'Hare) 
Great Falls. Mont. 
Worcester, Mass. 
Spokane, Wash. 
Tulsa, Okla. 
Springfield, Mo. 
Grand Rapids, Mich. 
Louisville, Ky. 
Washington, D.C. 
Greenville/Spartanburg, S.C. 
San Antonio, Tex. 
Little Rock. Ark. 
Monroe, La. 
Melbourne, Fla. 
Chicago, 111. (O'Hare) 
Tallahassee, Fla. 
Louisville, Ky. 
Raleigh/ Durham, N.C. 
Detroit, Mich. (Metropolitan) 
Chicago, 111. (O'Hare) 
New Orleans, La. 
Birmingham, Ala. 
San Francisco, Calif. 
Richmond, Va. 
Ft. Wayne, Ind. 
Louisville, Ky. 
Omaha, Neb. 
Oklahoma City, Okla. 
Raleigh/Durham, N.C. 
Tucson, Ariz. 
Orlando, Fla. 
Dallas /Ft. Worth, Tex. 



174 



Page 3 



81. 


ICT-MCI 


Wichita. Kan. 


Kansas City. Mo. 


82. 


ORD-TOL 


Chicago. Ul. (O'Hare) 


Toledo. Ohio 


83. 


FLL-MCO 


Ft. Lauderdale, Fla. 


Orlando, Fla. 


84. 


CLE-PIT 


Cleveland. Ohio 


Pittsburgh, Pa. 


85. 


ESF-SHV 


Alexandria. La. 


Shreveport, La. 


86. 


FNT-ORD 


Flint. Mich. 


Chicago, 111. (O'Hare) 


87. 


BAL-BDL 


Baltimore. Md. 


Hartford. Conn. 


88. 


CLE- DAY 


Cleveland. Ohio 


Dayton. Ohio 


80. 


MCI-OMA 


Kansas City. Mo. 


Omaha, Neb. 


90. 


LAS-SAN 


Las Vegas. Nev. 


San Diego. Calif. 


91. 


PFN-PNS 


Panama City, Fla. 


Pensacola. Fla. 


92. 


CRP-DEN 


Casper, Wyo. 


Denver. Colo. 


93. 


PHX-PSP 


Phoenix, Ariz. 


Palm Springs. Calif. 


94. 


JAX-SAV 


Jacksonville, Fla. 


Savannah, Ga. 


95. 


RIC-WAS 


Richmond, Va. 


Washington, D. C. 


96. 


DAL-MLU 


Dallas/ Ft. Worth, Tex. 


Monroe, La. 


97. 


CRP-IAH 


Corpus Christi, Tex. 


Houston, Tex. 


98. 


FSM-TUL 


Ft. Smith, Ark. 


Tulsa, Okla. 


99. 


PIT-ROA 


Pittsburgh, Pa. 


Roanoke, Va. 


100. 


CAE-CHS 


Columbia, S. C. 


Charleston. S.C. 


101. 


CMH-TOL 


Columbus, Ohio 


Toledo. Ohio 


102. 


MLI-ORD 


Moline. m. 


Chicago. 111. (O'Hare) 


103. 


BOS-PWM 


Boston, Mass. 


Portland. Maine 


104. 


FMY-MIA 


Fort Myers, Fla. 


Miami. Fla. 


105. 


DSM-MCI 


Des Moines, Iowa 


Kansas City, Mo. 


106. 


LAS- LAX 


Las Vegas, Nev. 


Los Angeles, Calif. 


107. 


AUS-IAH 


Austin, Tex. 


Houston, Tex. 


108. 


DAB-JAX 


Daytona Beach, Fla. 


Jacksonville, Fla. 


109. 


FAT -LAX 


Fresno, Calif. 


Los Angeles, Calif. 


110. 


MLU-SHV 


Monroe, La, 


Shreveport, La. 


111. 


CMH-IND 


Columbus, Ohio 


Indianapolis, Ind. 


112. 


LAN-ORD 


Lansing, Mich. 


Chicago, ni. (O'Hare) 


113. 


MLB-TPA 


Melbourne. F.'a. 


Tampa, Fla. 


114. 


FMY-TPA 


Fort Myers. Fla. 


Tampa, Fla. 


115. 


BNA-STL 


Nashville. Tenn. 


St. Louis, Mo. 


116. 


CLE-MBS 


Cleveland. Ohio 


Saginaw, Mich. 


117. 


EVV-SDF 


Evansville. Ind. 


Louisville, Ky. 


118. 


EEN-NYC 


Keene. N. H. 


New York, N.Y. 


119. 


ATL-CHA 


Atlanta. Ga, 


Chattanooga, Tenn. 


120. 


BDL-NYC 


Hartford. Conn. 


New York, N.Y. 



175 



Page 4 



121. 


BOS-BTV 


Boston. Mass. 




122. 


ICT-OKC 


Wichita, Kan. 




123. 


BFL-SFO 


Bakersfield. Calif. 




124. 


MEM- PAH 


Memphis, Tenn. 




125. 


AMA-ICT 


Amarillo. Tex. 




126. 


DAL-ICT 


Dallas /Ft. Worth, Tex. 




127. 


G EG- SEA 


Spokane, Wash. 




128. 


LIT-SGF 


Little Rock. Ark. 




129. 


ABQ-ELP 


Albuquerque, N. M. 




130. 


FAR-MSP 


Fargo, N.D. 




131. 


FWA-ORD 


Ft. Wayne, Ind. 




132. 


FSD-MSP 


Sioux Falls, S. D. 




133. 


DEN-GJT 


Denver, Colo. 




134. 


MSN-MSP 


Madison, Wis. 




135, 


CLE-LAN 


Cleveland. Ohio 




136. 


GSO-RIC 


Greensboro/High Point, 


N.C, 


137. 


ICT-TUL 


Wichita. Kan. 




138. 


BAL-PHF 


Baltimore. Md. 




139. 


CLE-FNT 


Cleveland, Ohio 




140. 


BAL-ORF 


Baltimore, Md. 




141. 


BPT-SHV 


Beaumont/ Port Arthur, 


Tex. 


142. 


GRR-ORD 


Grand Rapids. Mich. 




143. 


AVL-CRW 


Asheville. N.C. 




144. 


OKC-TUL 


Oklahoma City. Okla. 




145. 


ABQ-AMA 


Albuquerque. N. M. 




146. 


CLE-CMH 


Cleveland, Ohio 




147. 


ROC-SYR 


Rochester. N.Y. 




148. 


FAT-SFO 


Fresno. Calif. 




149. 


RNO-SFO 


Reno. Nev. 




150. 


CHA-TYS 


Chattanooga. Tenn. 




151. 


BTR-SHV 


Baton Rouge. La. 




152. 


LBB-MAF 


Lubbock. Tex. 




153. 


FSD-PIR 


Sioux Falls, S. D. 




154. 


BTR-ESF 


Baton Rouge, La. 




155. 


ELP-MAF 


El Paso, Tex. 




156. 


GEG-MSO 


Spokane, Wash. 




157. 


BHM-PNS 


Birmingham, Ala. 




158. 


DAY-IND 


Dayton, Ohio 




159. 


BGR-PWM 


Bangor, Me. 




160. 


FSM-SHV 


Ft. Smith. Ark. 





Burlington, Vt. 
Oklahoma City, Okla. 
San Francisco, Calif. 
Paducah, Ky. 
Wichita, Kan. 
Wichita, Kan. 
Seattle, Wash. 
Springfield, Mo. 
El Paso, Tex. 

Minneapolis/St. Paul. Minn. 
Chicago, 111. (O'Hare) 
Minneapolis/St. Paul, Minn. 
Grand Junction, Colo. 
Minneapolis /St. Paul, Minn. 
Lansing, Mich. 
Richmond. Va. 
Tulsa. Okla. 
Newport News, Va. 
Flint, Mich. 
Norfolk, Va. 
Shreveport, La. 
Chicago, III. (O'Hare) 
Charleston, W. Va. 
Tulsa. Okla. 
Amarillo, Tex. 
Columbus, Ohio 
Syracuse. N. Y. 
San Francisco. Calif. 
San Francisco, Calif. 
Knoxville. Tenn. 
Shreveport. La. 
Midland/Odessa. Tex. 
Pierre. S.D. 
Alexandria. La. 
Midland/Odessa, Tex. 
Missoula. Mont. 
Pensacola, Fla. 
Indianapolis, Ind. 
Portland, Me. 
Shreveport, La. 



176 



Page 5 



161. 


CLE-DTW 


Cleveland. Ohio 


162. 


CVG-MSP 


Cincinnati, Ohio 


163. 


CLT-GSP 


Charlotte. N.C. 


164. 


BIL-GTF 


Billings, Mont. 


165. 


CAK-YNG 


Akron/ Canton. Ohio 


166. 


ATL-MCN 


Atlanta, Ga, 


167. 


CVG-IND 


Cincinnati, Ohio 


168. 


CMH-CVG 


Columbus, Ohio 


169. 


CHA-CVG 


Chattanooga, Tenn. 


170. 


MCO-TPA 


Orlando. Fla. 


171. 


PFN-TLH 


Panama City, Fla. 


172. 


AGS-CLT 


Augusta, Ga. 


173. 


BTR-MSY 


Baton Rouge, La. 


174. 


MKG-ORD 


Muskegon, Mich. 


175. 


PDT-PDX 


Pendleton. Ore. 


176. 


BOI-PDT 


Boise. Id. 


177. 


PIH-SLC 


Pocatello. Id. 


178. 


ATL-CSG 


Atlanta. Ga. 


179. 


CLE-TOL 


Cleveland. Ohio 


180. 


FWA-IND 


Ft. Wayne. Ind. 


181. 


CLT-GSO 


Charlotte. N.C. 


182. 


AVP-WAS 


Wilkes- Barre/Scranton. Pa, 


183. 


AMA-LBB 


AmarUlo. Texas 


184. 


PBI-TLH 


West Palm Beach. Fla. 


185. 


IDA-SLC 


Idaho Falls, Id. 


186. 


CHS-SAV 


Charleston, S. C. 


187. 


CRP-RAP 


Casper, Wyo. 


188. 


CVG-LEX 


Cincinnati, Ohio 


189. 


CLE-CRW 


Cleveland, Ohio 


190. 


CAK-PIT 


Akron/ Canton. Ohio 


191. 


JMS-MSP 


Jamestown, N. D. 


192. 


CAE-CLT 


Columbia, S. C. 


193. 


BIL-BZN 


Billings. Mont 


194. 


DSM-OMA 


Des Moines, Iowa 


195. 


PDX-SEA 


Portland, Ore. 


196. 


BAL-PHL 


Baltimore, Md. 


197. 


LEX-SDF 


Lexington, Ky. 


198. 


BDL-BOS 


Hartford, Conn. 


199. 


BIL-CRP 


Billings, Mont. 


200. 


NYC-PHL 


New York. N.Y. 



Detroit, Mich. (Metropolitan) 
Minneapolis /St. Paul, Minn. 
Greenville/Spartanburg. S.C. 
Great Falls. Mont. 
Youngstown. Ohio 
Macon. Ga. 
Indianapolis. Ind. 
Cincinnati, Ohio 
Cincinnati, Ohio 
Tampa, Fla. 
Tallahassee, Fla. 
Charlotte, N.C. 
New Orleans. La. 
Chicago. Ul. (O'Hare) 
Portland. Ore. 
Pendleton, Ore. 
Salt Lake City. Utah 
Columbus, Ga. 
Toledo, Ohio 
Indianapolis, Ind. 
Greensboro/High Point, N.C. 
Washington, D. C. 
Lubbock, Texas 
Tallahassee, Fla. 
Salt Lake City, Utah 
Savannah, Ga. 
Rapid City, S.D. 
Lexington, Ky. 
Charleston, W. Va. 
Pittsburgh, Pa. 
Minneapolis /St. Paul, Minn. 
Charlotte, N.C. 
Bozeman, Mont. 
Omaha, Neb. 
Seattle, Wash. 
Philadelphia, Pa. 
Louisville, Ky. 
Boston, Mass. 
Casper, Wyo. 
Philadelphia, Pa. 



177 



Page 6 



201. 


BIL-HLN 


Billings. Mont. 


202. 


BTM-IDA 


Butte. Mont. 


203. 


GSO-ROA 


Greensboro/High Point, N.C. 


204. 


MIA-PBI 


Miami, Fla. 


205. 


FIR-RAP 


Pierre. S. D. 


206. 


MOB-PNS 


Mobile. Ala. 


207, 


PHX-TUS 


Phoenix, Ariz. 


208. 


MSN-ORD 


Madison, Wis. 


209. 


BFL-LAX 


Bakersfield. Calif. 


210. 


CID-OMA 


Cedar Rapids/Iowa City. la. 


211. 


FLL-PBI 


Ft. Lauderdale. Fla. 


212. 


DTW/FWA 


Detroit, Mich. (Metropolitan) 


213, 


BDL-PVD 


Hartford. Conn. 


214. 


GSO-RDU 


Greensboro/High Point, N.C. 


215. 


MSN-RST 


Madison. Wis. 


216. 


FMY-SRQ 


Fort Myers. Fla. 


217, 


AGS-CAE 


Augusta. Ga. 


218, 


PSP-TUS 


Palm Springs, Calif. 


219. 


CSG-MGM 


Columbus. Ga. 


220. 


LAX-SBA 


Los Angeles. Calif. 


221. 


CYS-DEN 


Cheyenne. Wyo. 


222. 


ELP-SFO 


El Paso. Tex. 


223. 


BIS-FAR 


Bismarck. N. D. 


224. 


SAN-SFO 


San Diego. Calif. 


225. 


EUG-PDX 


Eugene. Ore. 


226, 


DAB- T PA 


Daytona Beach, Fla. 


227. 


LAX- SAN 


Los Angeles, Calif. 


228. 


ORD-SBN 


Chicago, 111. 


229. 


LAX-PSP 


Los Angeles. Calif. 


230. 


PDX-STL 


Portland, Ore. 


231. 


AVL-RDU 


Asheville. N.C, 


232. 


RNO-SMF 


Reno. Nev, 


233. 


EUG-MFR 


Eugene, Ore. 


234. 


DAY- LAX 


Dayton. Ohio 


235. 


CHA-LEX 


Chattanooga, Tenn. 


236. 


CRP-CYS 


Casper, Wyo. 


237. 


CID-DSM 


Cedar Rapids/Iowa City. la. 


238. 


LAX-VIS 


Los Angeles, Calif, 


239. 


COS-OKC 


Colorado Springs. Colo. 


240. 


JAN-MEI 


Jackson/Vicksburg. Miss. 



Helena. Mont. 
Idaho Falls. Id. 
Roanoke. Va. 
West Palm Beach, Fla. 
Rapid City. S. D. 
Pensacola, Fla. 
Tucson. Ariz. 
Chicago, 111. (O'Hare) 
Los Angeles, Calif. 
Omaha, Neb. 
West Palm Beach, Fla. 
Ft. Wayne, Ind, 
Providence, R.I. 
Raleigh/ Durham, N.C. 
Rochester, Minn. 
Sarasota. Fla. 
Columbia, S.C. 
Tucson, Ariz. 
Montgomery, Ala. 
Santa Barbara, Calif. 
Denver, Colo. 
San Francisco, Calif. 
Fargo, N.D. 
San Francisco. Calif. 
Portland. Ore. 
Tampa, Fla, 
San Diego. Calif, 
South Bend, Ind. 
Palm Springs. Calif. 
St. Louis. Mo. 
Raleigh/ Durham, N.C. 
Sacramento. Calif. 
Medford. Ore. 
Los Angeles. Calif. 
Lexington, Ky. 
Cheyenne, Wyo. 
Des Moines. la, 
Visalia, Calif. 
Oklahoma City. Okla. 
Meridian. Miss. 



51-146 O - 76 - pt. 1 



178 



Page 7 



241. 


SHV-TUL 


Shreveport, La. 


242. 


BHM-BNA 


Birmingham, Ala. 


243. 


HLN-MSO 


Helena. Mont. 


244. 


EVV-PAH 


EvansvUle. Ind. 


245. 


CVG-LAX 


Cincinnati, Ohio 


246. 


PIT-YNG 


Pittsburgh. Pa. 


247. 


BUF-ROC 


Buffalo. N.Y. 


248. 


CID-MLI 


Cedar Rapids/Iowa City, la. 


249. 


BAL-LAS 


Baltimore. Md. 


250. 


CMH-DAY 


Columbus, Ohio 


251. 


BTM-SLC 


Butte. Mont. 


252. 


MKE-MSN 


MUwaukee. Wis. 


253. 


MRY-SFO 


Monterey. Calif. 


254. 


LAW-OKC 


Lawton, Okla. 


255. 


MSP- EST 


Minneapolis/St. Paul, Minn. 


256. 


BTM-GEG 


Butte, Mont. 


257. 


AVL-TYS 


Asheville. N. C. 


258. 


NYC-TUL 


New York, N.Y. 


259. 


SFO-SMF 


San Francisco, Calif. 


260. 


AGS-SAV 


Augusta, Ga. 


261. 


SEA- WAS 


Seattle, Wash. 


262. 


SAN-TUS 


San Diego, Calif. 


263. 


FWA-SBN 


Ft. Wayne, Ind. 


264. 


LBB-SPS 


Lubbock, Tex. 


265. 


BAL-WAS 


Baltimore. Md. 


266. 


COS-DEN 


Colorado Springs. Colo. 


267. 


MCI-OKC 


Kansas City. Mo. 


268. 


SCK-SFO 


Stockton. Calif. 


269. 


SRQ-TPA 


Sarasota. Fla. 


270. 


DSM-MLI 


Des Moines. Iowa 


271. 


AUS-ELP 


Austin. Tex. 


272. 


BIL-FAR 


Billings. Mont. 


273. 


MKE-SFO 


Milwaukee. Wis. 


274. 


MCI-TUS 


Kansas City. Mo. 


2 75. 


MKE-ORD 


Milwaukee. Wis. 


276. 


DTW-MSY 


Detroit. Mich. (Metropolitan) 


277. 


CAK-NYC 


Akron/ Canton. Ohio 


278. 


BTM-BZN 


Butte. Mont. 


279. 


CLT-DTW 


Charlotte. N. C. 


280. 


FWA-NYC 


Ft. Wayne. Ind. 



Tulsa, Okla. 

Nashville. Tenn. 

Missoula. Mont. 

Paducah. Ky. 

Los Angeles. Calif. 

Youngstown. Ohio 

Rochester, N.Y. 

Moline, 111. 

Las Vegas. Nev. 

Dayton, Ohio 

Salt Lake City, Utah 

Madison, Wis. 

San Francisco, Calif. 

Oklahoma City, Okla. 

Rochester, Minn. 

Spokane, Wash. 

Knoxville, Tenn. 

Tulsa, Okla. 

Sacramento. Calif. 

Savannah. Ga. 

Washington. D. C. 

Tucson, Ariz. 

South Bend, Ind. 

Wichita Falls, Tex. 

Washington, D. C. 

Denver, Colo. 

Oklahoma City, Okla. 

San Francisco, Calif. 

Tampa, Fla. 

Moline, 111. 

El Paso, Tex. 

Fargo, N.D. 

San Francisco, Calif. 

Tucson, Ariz. 

Chicago, ni. (O'Hare) 

New Orleans. La. 

New York, N.Y. 

Bozeman, Mont. 

Detroit, Mich. (Metropolitan) 

New York. N.Y. 



179 



Page 



281. 


FAR-GFK 


Fargo, N.D. 


282. 


OMA-PDX 


Omaha. Neb. 


283. 


ORF-PHF 


Norfolk. Va. 


284. 


NYC-OMA 


New York. N. Y. 


285. 


FLL-MIA 


Ft. Lauderdale. Fla. 


286. 


FNT-MBS 


Flint. Mich. 


287. 


IND-LEX 


Indianapolis. Ind. 


288. 


CHA-CMH 


Chattanooga. Term. 


289. 


AUS-SAT 


Austin. Tex. 


290. 


CLT-DAB 


Charlotte. N. C. 


291, 


CHA-SDF 


Chattanooga. Tenn. 


292. 


IDA-PIH 


Idaho Falls. Id. 


293. 


ABE-AVP 


Allentown. Pa. 


294, 


LAS-TPA 


Las Vegas. Nev. 


295. 


LNK-OMA 


Lincoln. Neb, 


296. 


CLT-RIC 


Charlotte. N, C. 


297. 


HSV-BNA 


HuntsvUle/Decatur, Ala. 


298. 


lAH-MCI 


Houston. Tex. 


299, 


BPT-IAH 


Beaumont /Port Arthur. Tex. 


300. 


BFL-SBA 


Bakersfield. Calif. 


301. 


CRP-SHR 


Casper. Wyo. 


302. 


DTW-TOL 


Detroit. Mich. (Metropolitan) 


303. 


DAB-MCO 


Daytona Beach. Fla, 


304. 


BFL-FAT 


Bakersfield. Calif. 


305, 


MSP-SAN 


Minneapolis/ St, Paul, Minn. 


306, 


BAL-BUF 


Baltimore, Md. 


307. 


BIS-JMS 


Bismarck. N.D, 


308. 


EKO-RNO 


Elko, Nev. 


309. 


DAY-SDF 


Dayton. Ohio 


310. 


MSY-OKC 


New Orleans. La. 


311. 


CVG-TOL 


Cincinnati. Ohio 


312. 


BHM-MLU 


Birmingham. Ala, 


313. 


ILG-WAS 


Wilmington, Del, 


314. 


DAY-PHL 


Dayton, Ohio 


315. 


BTM-HLN 


Butte. Mont, 


316, 


BTM-GTF 


Butte. Mont. 


317, 


MCE-VIS 


Merced, Calif. 


318, 


MHT-ORH 


Manchester, N. H. . 


319, 


JAX-MLB 


Jacksonville. Fla. 


320, 


BAL-SEA 


Baltimore. Md. 



Grand Forks. N.D, 
Portland. Ore. 
Newport News. Va. 
Omaha. Neb. 
Miami. Fla. 
Saginaw. Mich. 
Lexington. Ky. 
Columbus, Ohio 
San Antonio. Tex. 
Daytona Beach, Fla. 
Louisville, Ky. 
Pocatello. Id. 
Wilkes- Barre/Scranton. 
Tampa. Fla, 
Omaha. Neb. 
Richmond, Va. 
Nashville, Tenn. 
Kansas City. Mo, 
Houston. Tex. 
Santa Barbara, Calif. 
Sheridan, Wyo. 
Toledo. Ohio 
Orlando. Fla. 
Fresno. Calif. 
San Diego, Calif. 
Buffalo, N. Y, 
Jamestown, N. D. 
Reno, Nev. 
Louisville, Ky. 
Oklahoma City. Okla. 
Toledo. Ohio 
Monroe, La. 
Washington, D, C, 
Philadelphia, Pa. 
Helena, Mont. 
Great Falls, Mont. 
Visalia, Calif. 
Worcester, Mass. 
Melbourne. Fla. 
Seattle. Wash, 



180 



Page 9 



321. 


BOS-IAH 


Boston. Mass. 




322. 


CLT-JAX 


Charlotte, N.C. 




323. 


EVV-MEM 


Evansville. Ind. 




324. 


JAX-SRQ 


Jacksonville, Fla. 




325. 


BTV-PWM 


Burlington, Vt. 




326. 


GRR-MBS 


Grand Rapids, Mich. 




327. 


CVG-DAY 


Cincinnati, Ohio 




328. 


MHT-PWM 


Manchester, N.H. 




329. 


MOD-SCK 


Modesto, Calif. 




330. 


BOS-PVD 


Boston, Mass. 




331. 


BAL-ROC 


Baltimore, Md. 




332. 


CMH-TYS 


Columbus, Ohio 




333. 


ELP-IAH 


El Paso, Tex. 




334. 


BHM-TYS 


Birmingham, Ala. 




335. 


MCE-MOD 


Merced, Calif. 




336. 


EVV-LEX 


Evansville, Ind. 




337. 


CHA-IND 


Chattanooga, Tenn. 




338. 


MIA-SRQ 


Miami, Fla. 




339. 


NEA-MCN 


Brunswick, Ga. 




340. 


RDU-WAS 


Raleigh/ Durham, N.C. 




341. 


CAK-CLE 


Akron/ Canton, Ohio 




342. 


BHM-BTR 


Birmingham, Ala. 




343. 


GNV-TLX 


Gainesville, Fla. 




344. 


FNT-LAN 


Flint, Mich. 




345. 


LAW-SPS 


Lawton, Okla. 




346. 


GTF-HLN 


Great Falls, Mont. 




347. 


CID-LNK 


Cedar Rapids/Iowa City, 


la. 


348. 


FMY-MCO 


Fort Myers, Fla. 




349. 


PDX-SLE 


Portland, Ore. 




350. 


BAL-HVN 


Baltimore, Md. 




351. 


MKE-RST 


Milwaukee, Wis. 




352. 


FWA-TOL 


Ft. Wayne, Ind. 




353. 


LEB-NYC 


Lebanon, N.H. 




354. 


DAY-TOL 


Dayton, Ohio 




355. 


MCO-MLB 


Orlando. Fla. 




356. 


EKO-ELY 


Elko, Nev. 




357. 


BOS-MHT 


Boston, Mass. 




358. 


ELY-SLC 


Ely, Nev. 




359. 


NEA-SAV 


Brunswick, Ga. 




360. 


EWB-NYC 


New Bedford, Mass. 





Houston, Texas 
Jacksonville. Fla. 
Memphis. Tenn. 
Sarasota, Fla. 
Portland, Me. 
Saginaw, Mich. 
Dayton, Ohio 
Portland, Me. 
Stockton, Calif. 
Providence, R.I. 
Rochester, N. Y. 
Knoxville. Tenn. 
Houston. Tex. 
Knoxville. Tenn. 
Modesto, Calif. 
Lexington, Ky. 
Indianapolis, Ind. 
Sarasota, Fla. 
Macon, Ga. 
Washington, D. C. 
Cleveland, Ohio 
Baton Rouge, La. 
Titusville, Fla. 
Lansing, Mich. 
Wichita Falls, Tex. 
Helena, Mont. 
Lincoln, Neb. 
Orlando, Fla. 
Salem, Ore. 
New Haven, Conn. 
Rochester, Minn. 
Toledo, Ohio 
New York, N. Y. 
Toledo. Ohio 
Melbourne, Fla. 
Ely, Nev. 
Manchester, N. H. 
Salt Lake City, Utah 
Savannah, Ga. 
New York, N. Y. 



181 



Page 10 



361. 


DAB-FLL 


362. 


AGS-CHS 


363. 


EEN-LEB 


364. 


BIL-SHR 


365. 


CMH-LEX 


366, 


DSM-LNK 


367. 


BZN-HLN 


368. 


MHT-NYC 


369. 


BOS-EWB 


370. 


MOD-SFO 


371. 


JAX-NEA 


372. 


EEN-MHT 



Daytona Beach, FIs 
Augusta, Ga. 
Keene. N. H. 
Billings, Mont. 
Columbus, Ohio 
Des Moines, Iowa 
Bozeman, Mont. 
Manchester, N. H. 
Boston, Mass. 
Modesto, Calif. 
Jacksonville, Fla. 
Keene, N. H. 



Ft. Lauderdale, Fla. 
Charleston, S. C. 
Lebanon. N. H. 
Sheridan, Wyo. 
Lexington, Ky. 
Lincoln, Neb. 
Helena, Moat. 
New York, N. Y. 
New Bedford, Mass. 
San Francisco, Calif. 
Brunswick, Ga. 
Manchester, N. H. 



182 



EXHIBIT C 



CITY PAIRS RISKING LOSS OF SERVICE 
BY STATE 



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EXHIBIT D 



CITY PAIRS RISKING CURTAILMENT OF SERVICE 
BY STATE 



51-146 O - 76 - pt. 1 - 21 



306 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand, 







Average Daily 






Non-Stop 






Services 




(1973 Actual) 


ALABAMA 






Between: 






Birmingham 






and: 






- Chicago, ni. 




6 


- Cincinnati, Ohio 




2 


- Dallas /Ft. Worth, ' 


Tex. 


2 


- Jackson/ Vicksburg, 


Miss 


9 


- Los Angeles, Calif. 




3 


- Memphis, Tenn. 




9 


- Miami, Fla. 




3 


- Mobile. Ala. 




6 


- New Orleans, La. 




7 


- New York. N.Y. 




5 


HuntsvUle/ Decatur 







and: 

- Greensboro, N.C. 

- Los Angeles, Calif. 

- Knoxville, Tenn. 

- Orlando, Fla. 

- St. Louis, Mo. 

- Washington. D.C. 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



and: 

- Atlanta. Ga. 

- Birmingham. Ala. 



Montgomery 
and: 

- Jackson/Vicksburg. 

- New Orleans, La. 



307 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily 
Non-stop 
Services 

(1973 Actual) 



Services Assigned 

at 

Maximuni Earnings 

(Simulation) 



Between: 
Phoenix 



and: 

- Albuquerque. N. M. 

- Amarillo, Texas 

- Chicago, 111. 

- Dallas, Texas 

- Denver, Colo. 

- El Paso, Texas 

- Houston, Texas 

- Kansas City, Mo. 

- Las Vegas, Nev. 

- Los Angeles, Calif. 

- Minneapolis/St. Paul, 

- New York, N. Y. 

- Oklahoma City. Okla. 

- Portland, Ore. 

- St. Louis, Mo. 

- San Antonio, Texas 

- San Francisco, Calif. 

- Washington, D. C. 



and: 

- Chicago, m. 

- Dallas. Texas 

- Los Angeles. Calif. 

- San Francisco, Calif. 



308 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-stop at 
Services Maximum Earnings 

(1973 Actual) (Simulation) 

ARKANSAS 
Between: 
Little Rock 
and: 

- Dallas, Texas 14 4 

- Houston. Texas 2 2 

- Kansas City, Mo. 2 2 

- Memphis, Tenn. 31 2 

- Nashville, Tenn. 2 2 

- Oklahoma City. Okla. 2 2 

- St. Louis, Mo. 6 4 

- Shreveport, La. 4 2 



309 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 





Average Daily 




Non-Stop 




Services 




(1973 Actual) 


CALIFORNIA 




Between: 




Los Angeles 




and: 




- Albuquerque. N. M. 


12 


- Atlanta. Ga. 


13 


- Baltimore, Md. 


3 


- Birmingham, Ala. 


3 


- Boston, Mass. 


7 


- Chicago, 111. 


42 


- Cleveland, Ohio 


9 


- Colorado Springs, Colo. 


2 


- Columbus, Ohio 


2 


- Dallas, Texas 


26 


- Denver, Colo. 


26 


- Des Moines, Iowa 


2 


- Detroit, Mich. 


10 


- El Paso. Texas 


14 


- Hartford, Conn. 


4 


- Houston, Texas 


14 


- Huntsville/ Decatur, Ala, 


3 


- Indianapolis, Ind. 


2 


- Kansas City, Mo. 


12 


- Memphis, Tenn. 


8 


- Miami, Fla. 


4 


- Milwaukee, Wis. 


4 


- Minneapolis /St. Paul, M 


linn. 13 


- Monterey, Calif. 


11 


- New Orleans, La. 


6 


- New York, N. Y. 


25 


- Oklahoma City, Okla. 


8 


- Omaha, Neb. 


6 


- Philadelphia, Pa. 


10 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



310 



Comparison of Non-Stop Scheduled Services (cont'd.) 



Average Daily Services Assigned 

Non-stop at 

Services Maximum Earnings 
(1973 Actual) (Simulation) 



CALIFORNIA (cont'd) 



Between: 




Los Angeles (cont'd) 




and: 




- Phoenix. Ariz. 


29 


- Pittsburgh, Pa. 


3 


- Portland, Ore. 


16 


- Reno, Nev. 


6 


- Sacramento, Calif. 


13 


- St. Louis, Mo. 


11 


- Salt Lake City, Utah 


12 


- San Antonio, Texas 


3 


- San Francisco, Calif. 


80 


- Seattle. Wash. 


18 


- Tampa, Fla. 


1 


- Tucson. Ariz. 


10 


- Washington, D.C. 


11 


Monterey 




and: 




- Los Angeles. Calif. 


11 


Sacramento 




and: 




- Chicago, 111. 


4 


- Denver, Colo. 


4 


- Los Angeles. Calif. 


13 


- Portland, Ore. 


2 


- Salt Lake City, Utah 


2 


San Diego 




and: 




- Chicago. 111. 


13 


- Dallas, Texas 


6 


- Denver, Colo. 


6 


- New York, N.Y. 


3 


- Seattle, Wash. 


2 


- Washington. D.C. 


4 


San Francisco 




and: 




- Albuquerque, N.M. 


12 


- Atlanta, Ga. 


7 


- Baltimore. Md. 


4 



311 



Comparison of Non-Stop Scheduled Services (cont'd.) 



Page 3 





Average Daily 


Services Assigned 




Non-Stop 


at 




Services 


Maximum Earnings 




(1973 Actual) 


(Simulation) 


CALIFORNIA (cont'd) 






Between: 






San Francisco (cont'd) 






and: 






- Boise. Idaho 


4 


2 


- Boston, Mass. 


7 


4 


- Chicago, ni. 


29 


12 


- Cleveland, Ohio 


2 


2 


- Dallas, Texas 


18 


2 


- Denver, Colo. 


26 


6 


- Detroit, Mich. 


9 


2 


- Eugene, Ore. 


8 


2 


- Houston, Texas 


5 


2 


- Kansas City, Mo. 


5 


2 


- Las Vegas, Nev. 


31 


14 


- Los Angeles, Calif. 


80 


48 


- Medford, Ore. 


6 


4 


- Miami, Fla. 


4 


2 


- Minneapolis /St. Paul, 


Minn. 11 


2 


- New Orleans, La. 


2 


2 


- New York. N. Y. 


19 


2 


- Oklahoma City. Okla. 


3 


2 


- Omaha. Neb. 


2 


2 


- Philadelphia, Pa. 


7 


2 


- Phoenix. Ariz. 


9 


6 


- Pittsburgh. Pa. 


2 


2 


- Portland. Ore. 


28 


10 


- St. Louis. Mo. 


4 


2 


- Salt Lake City. Utah 


11 


2 


- San Antonio. Texas 


3 


2 


- Seattle. Wash. 


31 


10 


- Spokane, Wash. 


4 


2 


- Tucson, Ariz. 


4 


2 


- Washington, D. C. 


7 


2 



312 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



COLORADO 
Between: 
Colorado Springs 
and: 

- Albuquerque, N. M. 

- Chicago, IlL 

- Dallas, Tex. 

- Los Angeles, Calif. 



and: 




- Albuquerque, N. M. 


15 


- Baltimore, Md. 


2 


- Billings, Mont. 


4 


- Boise, Idaho 


4 


- Boston, Mass. 


4 


- Chicago, 111. 


16 


- Cleveland, Ohio 


2 


- Dallas, Tex. 


25 


- Des Moines, Iowa 


6 


- Detroit, Mich. 


5 


- Fresno, Calif. 


2 


- Houston, Tex. 


9 


- Kansas City. Mo. 


19 


- Las Vegas, Nev. 


14 


- Lincoln, Neb. 


4 


- Los Angeles, Calif. 


26 


- Memphis, Tenn. 


2 


- Midland/Odessa, Tex. 


2 



313 



Comparison of Non-Stop Scheduled Services (cont'd) 



Page 2 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



COLORADO (cont'd) 
Between: 
Denver 
and: 

- Milwaukee, Wis. 6 

- Minneapolis/St. Paul, Minn. 16 

- Moline, 111. 2 

- New Orleans, La. 1 

- New York, N. Y. 16 

- Oklahoma City, Okla. 5 

- Omaha, Neb. 15 

- Philadelphia, Pa. 2 

- Phoenix, Ariz. 18 

- Portland, Ore. 14 

- Rapid City, S. D. 6 

- Reno, Nev. 4 

- Sacramento, Calif. 4 

- Salt Lake City, Utah 26 

- San Diego. Calif. 6 

- San Francisco, Calif. 26 

- Seattle, Wash. 13 

- Sioiix Falls. S. D. 4 

- Spokane, Wash. 3 

- St. Louis. Mo. 14 

- Tulsa. Okla. 2 

- Washington. D.C. 9 

- Wichita. Kan. 10 



Grand Junction 



Las Vegas. Nev. 



314 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
19 73 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-stop at 

Services Maximum Earnings 
(1973 Actual) (Simulation) 



CONNECTICUT 
Between: 
Hartford 
and: 

- Atlanta, Ga. 

- Chicago, 111. 

- Cleveland, Ohio 

- Detroit, Mich. 

- Ft. Lauderdale, Fla. 

- Los Angeles, Calif. 

- Miami, Fla. 

- Philadelphia, Pa. 

- Pittsburgh, Pa. 

- Washington, D. C. 



New Haven 
and: 
- Washington, D. C. 



315 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily 

Non-Stop 

Services 

(1973 Actual) 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



DELAWARE 



316 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
mcLximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peEik demand. 







Average DaUy 






Non-stop 






Services 




(1973 Actual) 


DISTRICT OF COLUMBIA 






Between: 




Washington 






and: 






- Atlanta. Ga, 




30 


- Austin. Tex. 




2 


- Boston. Mass, 




44 


- Buffalo. N.Y. 




11 


- Charleston. S.C. 




4 


- Charlotte. N. C. 




6 


- Chicago, m. 




52 


- Cleveland. Ohio 




19 


- Cincinnati. Ohio 




7 


- Columbia. S.C. 




2 


- Columbus. Ohio 




9 


- Dallas. Tex. 




14 


- Dayton. Ohio 




8 


- Denver, Colo. 




9 


- Detroit, Mich. 




17 


- Greensboro/ High Point, 


N.C. 6 


- Greenville. Spartanburg. 


S.C. 2 


- Hartford. Conn. 




14 


- Houston. Tex. 




4 


- Huntsville/Decatur. 


Ala. 


2 


- Indianapolis. Ind. 




3 


- Jacksonville. Fla. 




5 


- Kansas City. Mo. 




1 


- KnoxvUle, Tenn. 




7 


- Lexington, Ky. 




2 


- Los Angeles, Calif. 




11 


- Louisville. Ky. 




6 


- Memphis. Tenn. 




8 



Services Assigned 



Maximum Ear 



nings 



(Simulation) 



317 

Page 2 
Comparison of Non-Stop Scheduled Services (cont'd) 



:.-. Average Daily 


Services Assigned 


Non-Stop 


at 


Services 


Maximum Earnings 


(1973 Actual) 


(Simulation) 


DISTRICT OF COLUMBIA (cont'd) 




Between: 




Washington 




and: 




- Miami, Fla. 17 


4 


- Milwaukee. Wis. 2 


2 


- Minneapolis /St. Paul. Minn. 11 


2 


- Nashville, Tenn. 8 


4 


- New Haven, Conn. 5 


2 


- New York, N. Y. 128 


36 


- Orlando. Fla. 6 


4 


- Phoenix, Ariz. 4 


2 


- Pittsburgh, Pa. 15 


6 


- Providence. R.I. 11 


4 


- Rochester, N.Y. 8 


4 


- St. Louis, Mo. 11 


4 


- San Diego, Calif. 4 


2 


- San Francisco, Calif. 7 


2 


- Syracuse, N.Y. 10 


2 


- Tampa. Fla. 6 


2 


- Tulsa, Okla. 2 


2 


- West Palm Beach. Fla, 3 


2 



318 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

FLORIDA 
Between: 
Daytona Beach 
and: 
- Atlanta, Ga, 9 * 



[iami, Fla. 



6 2 



- New York, N.Y. 1 2 

Ft. Lauderdale 
and: 

- Atlanta, Ga. 23 6 

- Baltimore, Md. 4 2 

- Boston, Mass. S 4 

- Chicago, 111. 14 4 

- Cleveland, Ohio 6 4 

- Detroit, Mich. 

- Hartford, Conn. 

- Jacksonville, Fla. 4 2 

- New York, N.Y. 44 14 

- Philadelphia, Pa. 



3 2 

3 2 



7 2 

5 4 

13 4 



- Pittsburgh, Pa. 

- Tampa, Fla. 

Gainesville 
and: 

- Atlanta, Ga. 4 2 

Jacksonville 
and: 

- Atlanta. Ga. 30 14 



Chicago, 111. 
Ft. Lauderdale, 



4 2 

2 



319 



Comparison of Non-Stop Scheduled Services (cont'd.) 



Page 2 



FLORIDA (Cont'd.) 
Between 
Jacksonville (Cont'd, 
and: 

- Miami, Fla. 

- New Orleans, 

- New York, N. 

- Norfolk, Va. 

- Philadelphia, Pa. 

- Washington, D.C. 

- West Palm Beach. 



La. 
Y. 



Average Daily 

Non-Stop 

Services 

(1973 Actual) 



Services Assigned 

at 
Maximum Earnings 
(Simulation) 



Melbourne 



Atlanta, Ga. 



Miami 




and: 




- Atlanta, Ga. 


34 


- Baltimore, Md, 


5 


- Birmingham, Ala. 


3 


- Boston, Mass. 


13 


- Buffalo, N.Y. 


2 


- Charlotte, N.C. 


4 


- Chicago, 111. 


18 


- Cincinnati, Ohio 


4 


- Cleveland, Ohio 


5 


- Columbus, Ohio 


4 


- Dallas, Tex. 


11 


- Daytona Beach, Fla. 


6 


- Detroit, Mich. 


7 


- Hartford, Conn. 


3 


- Houston, Tex. 


7 


- Jacksonville, Fla. 


8 


- Los Angeles, Calif. 


4 


- New Orleans, La. 


8 


- New York, N.Y. 


66 


- Philadelphia, Pa. 


14 


- Pittsburgh, Pa. 


10 


-Raleigh/Durham, N.C. 


2 


- St. Louis, Mo. 


5 


- San Francisco, Calif. 


4 


- Tampa, Fla. 


34 


- Washington, D.C. 


17 



320 



Comparison of Non-Stop Scheduled Services (cont'd. 



Page 3 



FLORIDA (Cont'd. ) 
Between: 
Orlando 



Average Daily 
Non-Stop 
Services 

(1973 Actual) 



Services Assigned 

at 
Maximum Earnings 
(Simulation) 



- Atlanta, Ga. 


26 


- Boston, Mass. 


3 


- Charlotte, N.C. 


2 


- Chicago, 111. 


7 


- Cleveland, Ohio 


2 


- Cincinnati, Ohio 


2 


- Dallas, Tex. 


2 


- Detroit, Mich. 


3 


- Huntsville/Decatur, Ala 


2 


- New York, N. Y. 


17 


- Philadelphia, Pa. 


2 


- Washington, D.C. 


6 


Panama City 




and: 




- Tampa, Fla. 


3 


Pensacola 




and: 




- Atlanta, Ga. 


12 


Sarasota 




and: 




- Atlanta, Ga. 


7 


- Chicago, 111. 


2 


Tallahassee 




and: 




- Atlanta, Ga. 


10 


Tampa 




and: 




- Atlanta, Ga. 


37 


- Boston, Mass. 


6 


- Chicago, 111. 


16 


- Cincinnati, Ohio 


4 


- Cleveland, Ohio 


5 


- Columbus, Ohio 


2 


- Dallas, Tex. 


7 



321 



Comparison of Non-Stop Scheduled Services (cont'd) 



Page 4 





(1973 Actual) 


FLORIDA (cont'd) 




Between: 




Tampa (cont'd) 




and: 




- Dayton, Ohio 


2 


- Detroit, Mich. 


9 


- Ft. Lauderdale, Fla. 


13 


- Houston, Tex. 


1 


- Los Angeles. Calif. 


1 


- Louisville, Ky. 


2 


- Miami. Fla. 


34 


- Milwaukee, Wis. 


2 


- Nashville. Tenn. 


2 


- New Orleans, La. 


9 


- New York, N. Y. 


20 


- Panama City, Fla. 


3 


- Philadelphia, Pa. 


8 


- Pittsburgh, Pa. 


6 


- St. Louis. Mo. 


5 


- Washington. D. C. 


6 


West Palm Beach 




and: 




- Atlanta, Ga. 


17 


- Chicago, m. 


2 


- Jacksonville, Fla. 


5 


- New York, N.Y. 


9 


- Washington, D. C. 


3 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(Simulation) 



322 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily 

Non-Stop 

Services 

(1973 Actual) 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



Between: 
Atlanta 



and: 

- Akron/Canton, Ohio 2 

- Baltimore, Md. 18 

- Baton Rouge, La. 3 

- Boston, Mass. H 

- Buffalo, N.Y. 9 

- Charleston, S.C. 6 

- Charleston, W. Va. 3 

- Charlotte, N.C. 25 

- Chicago, 111. 34 

- Columbus, Ohio 5 

- Cincinnati, Ohio 14 

- Cleveland, Ohio 12 

- Dallas/Ft. Worth, Tex. 31 

- Dayton, Ohio 11 

- Daytona Beach, Fla. 9 

- Detroit, Mich. 10 

- Evansville, Ind. 2 

- Ft. Lauderdale, Fla. 23 

- Gainesville, Fla. * 

- Greensboro/High Point, N.C. 12 

- Hartford, Conn. 8 

- Houston, Tex. 26 

- Indianapolis, Ind. 13 

- Jackson/Vicksburg, Miss. 8 

- Jacksonville, Fla. 30 



323 



Comparison of Non-Stop Scheduled Services (cont'd.) 



Page 2 



GEORGIA (cont'd.) 



Average Daily 

Non-stop 

Services 

(1973 Actual) 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



Between: 




Atlanta (cont'd. ) 




and: 




- Kansas City, Mo. 


6 


- Las Vegas. Nev. 


2 


- Lexington, Ky. 


2 


- Louisville, Ky. 


23 


- Los Angeles, Calif. 


13 


- Melbourne, Fla. 


7 


- Memphis, Tenn. 


18 


- Miami, Fla. 


34 


- Milwaukee, Wis. 


6 


- Minneapolis/St. Paul, Minn. 


10 


- Mobile, Ala. 


12 


- Nashville, Tenn. 


14 


- New Orleans, La. 


29 


- Newport News, Va. 


2 


- New York, N. Y. 


57 


- Norfolk, Va. 


5 


- Orlando, Fla. 


26 


- Pensacola, Fla. 


12 


- Philadelphia, Pa. 


25 


- Pittsburgh, Pa. 


15 


- Providence, R.L 


2 


-Raleigh/Durham, N.C. 


12 


- Richmond, Va. 


8 


- Rochester, N.Y. 


3 


- San Antonio, Tex. 


7 


- San Francisco, Calif. 


7 


- St. Louis, Mo, 


18 


- Sarasota, Fla. 


7 


- Savannah, Ga. 


13 


- Shreveport, La. 


2 


- Syracuse, N. Y. 


4 


- Tallahassee, Fla. 


10 


- Tampa, Fla. 


37 


- Washington, D.C. 


30 


- West Palm Beach, Fla. 


17^ 


Savannah 





Atlanta, Ga. 



324 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simiilated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services 
(1973 Actual) 



Maximum Earnings 
(Simulation) 



Between: 

Boise 

and: 

- Chicago, 111. 

- Denver, Colo. 

- Portland. Ore. 

- Reno, Nev. 

- San Francisco, 

- Seattle. Wash. 



325 

COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



Between: 




Chicago 




and: 




- Akron/Canton, Ohio 


7 


- Albany, N.Y. 


6 


-Albuquerque, N.Mex. 


9 


- AUentown, Pa. 


3 


- Atlanta, Ga. 


34 


- Baltimore, Md. 


14 


- Billings, Mont. 


2 


- Birmingham, Ala. 


6 


- Boise. Idaho 


2 


- Boston, Mass. 


29 


- Buffalo, N.Y. 


15 


- Charlotte. N.C. 


7 


- Cleveland, Ohio 


34 


- Colorado Springs, Colo. 


3 


- Columbia, S. C. 


2 


- Columbus, Ohio 


15 


- Dallas, Tex. 


25 


- Denver, Colo. 


41 


- Des Moines, Iowa 


19 


- El Paso, Tex. 


3 


- Evansville, Ind. 


6 


- Ft. Lauderdale, Fla. 


14 


- Greensboro/High 




Point, N.C. 


8 


- Harrisburg, Pa. 


2 


- Hartford, Conn. 


18 



326 



Page 2 
Comparison of Non-Stop Scheduled Services (cont'd.) 





Average Daily 
Non-stop 
Services 


Services Assigned 

at 
Maximum Earnings 




(1973 Actual) 


(Simulation) 


ILLINOIS (cont'd.) 






Between; 






Chicago (cont'd. ) 






and: 
- Houston, Tex. 


14 


4 


- Islip, N.Y. 

- Jacksonville, Fla. 


2 
4 


2 
2 


- Kansas City, Mo. 


41 


12 


- Knoxville, Tenn. 


2 


2 


- Las Vegas, Nev. 


19 


8 


- Lincoln, Nebr. 

- Los Angeles, Calif. 

- Louisville, Ky. 


4 
42 
16 


2 

16 

8 


- Memphis, Tenn. 

- Miami, Fla. 

- Minneapolis/St. Paul, 

- Nashville, Tenn. 


19 

18 

Minn. 56 

12 


6 

6 

32 


- New Orleans, La, 


8 




- Newport News, Va. 

- New York, N.Y. 


2 
117 


36 


- Norfolk, Va. 


7 




- Oklahoma City, Okla. 

- Omaha, Nebr. 


7 
19 


10 


- Orlando. Fla. 


7 




- Phoenix, Ariz. 


18 




- Pittsburgh, Pa. 

- Portland, Oreg. 

- Providence, R. I. 
-Raleigh/Durham, N.C 

- Reno, Nev. 


44 

11 

4 

6 

2 


10 


- Rochester, Minn. 


12 




- Rochester, N.Y. 


12 




- Sacramento, Calif, 

- Salt Lake City, Utah 

- San Antonio, Tex. 

- San Diego, Calif. 

- San Francisco, Calif. 


4 
15 

7 
13 
29 


12 


- Sarasota, Fla. 

- Seattle, Wash. 


15 


2 
6 


- Spokane, Wash. 

- Syracuse, N.Y. 

- Tampa, Fla. 


2 

6 

16 


2 
4 
6 



327 



Comparison of Non-Stop Scheduled Services (cont'd.) 



Page 3 



ILLINOIS (cont'd.) 
Between: 
Chicago (cont'd. ) 
and: 

- Tucson, Ariz. 

- Tulsa, Okla. 

- Washington, D.C. 

- West Palm Beach, Fla. 

- Wichita, Kan. 

- Youngstown, Ohio 



Average Daily 
Non-Stop 
Services 

(1973 Actual) 



Services Assigned 



Maxi 



mm Earnings 



(Simulation) 



Moli 



Denver, Colo. 



328 

COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximizatio 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Between: 




Evansville 




and: 




- Atlanta, Ga. 


2 


- Chicago, 111. 


6 


Indianapolis 




and: 




- Atlanta, Ga. 


13 


- Dallas, Tex. 


5 


- Kansas City, Mo. 


4 


- Los Angeles, Calif. 


2 


- Memphis, Tenn. 


7 


- Minneapolis/St. Paul, Minn. 2 


- New York, N.Y. 


8 


- Philadelphia. Pa. 


2 


- Pittsburgh, Pa. 


5 


- Washington, D. C. 


3 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



329 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

IOWA 
Between: 
Cedar Rapids 
and: 
- Chicago, 111. 11 6 

Des Moines 



Chicago, 111. 

Denver, Colo. 

Los Angeles, Calif. 



330 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE; This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



Between: 

Wichita 

and: 

- Albuquerque, N. M. 2 2 

- Chicago, 111. 6 2 

- Denver, Colo. 10 4 



331 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 
Services Maximum Earnings 

(1973 Actual) (Simulation) 

KENTUCKY 
Between: 
Lexington 
and: 

- New York, N.Y. 2 2 

- Washington, B.C. 2 2 

Louisville 
and: 

- Atlanta, Ga. 23 6 

- Chicago, 111. 16 8 

- Cleveland, Ohio 4 2 

- Columbus, Ohio 4 2 

- Dallas, Tex. 3 2 

- Detroit, Mich. 7 4 

- Kansas City, Mo. 2 2 

- Knoxville, Tenn. 4 2 

- Memphis, Tenn. 4 2 

- New York, N.Y. 5 .4 

- St. Louis, Mo. 5 2 

- Tampa, Fla. 2 2 
-Washington, B.C. 6 2 



332 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
liiaximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-stop at 

Services Maximum Earnings 



LOUISIANA 
Between: 
Alexandria 



(1973 Actual) 



(Simulation) 



Dallas, Texas 



New Orleans 




and: 
- Atlanta, Ga. 


29 


- Baltimore, Md. 


4 


- Birmingham, Ala. 

- Boston, Mass. 


7 
2 


- Chicago, 111. 

- Dallas, Texas 


8 

24 


- Denver, Colo. 


1 


- Houston, Texas 


36 


- Jacksonville, Fla. 


2 


- Kansas City, Mo. 

- Los Angeles, Calif. 


2 
6 


- Memphis, Tenn. 


15 


- Miami, Fla. 

- Montgomery, Ala. 

- Nashville. Tenn. 

- New York, N.Y. 


8 
4 
2 
12 


- Philadelphia, Pa. 

- Pittsburgh, Pa. 

- St. Louis, Mo. 


3 
4 
4 


- San Antonio, Texas 


3 


- San Francisco, Calif. 


2 


- Shreveport, La. 

- Tampa, Fla. 


8 

9 



333 



Comparison of Non-Stop Scheduled Services (cont'd) 



Page 2 



Average Daily 
Non-stop 
Services 



LOUISIANA (cont'd) 
Between: 
Shreveport 
and: 

- Atlanta, Ga. 

- Dallas, Texas 

- Houston, Texas 

- Jackson/Vicksburg, Miss 

- Little Rock, Ark. 

- Memphis. Tenn. 

- New Orleans, La. 



(1973 Actual) 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



334 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-stop at 

Services Maiximum Earnings 



(1973 Actual) 



(Simulation) 



Between: 
Bangor 
and: 
- Boston. Mass. 

Portland 



New York, N. Y. 



Presque Isle 
and: 
- Boston, Mass. 



335 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 





Average Daily 




Non-Stop 




Services 




(1973 Actual) 


MARYLAND 




Between: 




Baltimore 




and: 




- Atlanta. Ga. 


18 


- Boston, Mass. 


16 


- Chicago, 111 


14 


- Cleveland, Ohio 


4 


- Dallas, Texas 


5 


- Denver. Colo, 


2 


- Detroit, Mich. 


4 


- Ft. Lauderdale. Fla. 


4 


- Houston. Texas 


2 


- Kansas City. Mo. 


2 


- Los Angeles. Calif. 


3 


- Miami. Fla. 


5 


- New Orleans, La. 


4. 


- Pittsburgh, Pa. 


12 


- St. Louis, Mo. 


2 


- San Francisco, Calif. 


4 



Services Assigned 



Maximum Earnings 
(Simulation) 



336 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 
MASSACHUSETTS 



Between: 




Boston 




and: 




- Atlanta, Ga. 


11 


- Baltimore, Md. 


16 


- Bangor, Maine 


9 


- Buffalo. N.Y. 


8 


- Charlotte. N.C. 


2 


- Chicago, Ul. 


29 


- Cleveland. Ohio 


10 


- Cincinnati, Ohio 


5 


- Columbus. Ohio 


3 


- Dallas. Texas 


2 


- Denver. Colo. 


4 


- Detroit. Mich. 


8 


- Ft. Lauderdale. Fla. 


6 


- Los Angeles. Calif. 


7 


- Miami, Fla. 


13 


- Milwaukee. Wis. 


2 


- Minneapolis/St. Paul, Minn. 4 


- New Orleans, La. 


2 


- New York. N.Y. 


121 


- Orlando, Fla. 


3 


- Philadelphia. Pa. 


42 


- Pittsburgh. Pa. 


11 


- Presque Isle. Me, 


4 


- St. Louis, Mo. 


4 


- San Francisco. Calif. 


7 


- Tampa. Fla. 


6 


- Washington. D. C. 


44 



337 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate fr-equcncies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



Between: 




Detroit 
and: 

- Albany. N.Y. 

- Atlanta, Ga. 


4 
10 


- Baltimore, Md. 


4 


- Boston, Mass. 


8 


- Buffalo, N.Y. 


11 


- Burlington, Vt. 


2 


- Cincinnati, Ohio 

- Dallas. Texas 

- Denver, Colo. 


14 
7 

5 


- Ft. Lauderdale, Fla. 

- Hartford, Conn. 


3 
6 


- Kansas City, Mo. 

- Las Vegas, Nev. 


4 
2 


- Los Angeles, Calif. 

- Louisville, Ky. 


10 
7 


- Memphis, Tenn. 

- Miami. Ha. 

- Minneapolis/St. Paul. Mii 

- New York. N. Y. 


3 

7 

m. 5 

56 


- Orlando. Fla. 


3 


- Philadelphia, Pa. 

- Pittsburgh, Pa. 


14 
14 


- Rochester, N.Y. 

- St. Louis, Mo. 


12 

6 


- San Francisco, Calif. 


9 


- Syracuse, N. Y. 


2 


- Tampa. Fla. 

- Washington, D. C. 


9 
17 



51-146 O - 76 - Dt. 



338 



Comparison of Non-Stop Scheduled Services (cont'd) 



Average Daily Services Assigned 

Non-stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



MICHIGAN (cont 'd ) 
Between: 
Saginaw 
and: 
- New York, N. Y. 



Page 



339 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE; This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 





Average Daily 




Non-Stop 




Services 




(1973 Actual) 


MINNESOTA 




Between: 




Minneapolis/St. Paul 




and; 




- Atlanta, Ga. 


10 


- Billings, Mont. 


2 


- Bismarck, N. Dak. 


2 


- Boston, Mass. 


4 


- Chicago, 111. 


56 


- Cleveland, Ohio 


4 


- Dallas. Tex. 


4 


- Denver, Colo. 


16 


- Detroit, Mich. 


5 


- Indianapolis, Ind. 


2 


- Kansas City, Mo. 


6 


- Las Vegas, Nev. 


3 


- Los Angeles, Calif. 


13 


- Milwaukee, Wis. 


12 


- New York, N.Y. 


16 


- Omaha, Nebr. 


13 


- Philadelphia, Pa. 


4 


- Phoenix, Ariz. 


2 


- Rapid City, S. Dak. 


2 


- San Francisco, Calif. 


11 


- Seattle. Wash. 


8 


- Spokane, Wash. 


4 


- St. Louis, Mo. 


6 


- Washington, D.C. 


n 


Rochester 




and: 


. 


- Chicago. 111. 


12 



340 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE; This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-stop at 

Services Maximum Earnings 
(1973 Actual) (Simulation) 

MISSISSIPPI 
Between: 
Jackson/ Vicks burg 
and: 

- Atlanta, Ga. 8 4 

- Birmingham, Ala. 9 4 

- Dallas, Tex. 3 2 

- Memphis, Tenn, 16 4 

- Montgomery, Ala. 5 2 

- Shreveport, La. 12 4 



341 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 





Avera 


ge Daily 




Non 


i-Stop 




Ser 


vices 


MISSOURI 


(1973 


Actual) 


Between: 




Kansas City 






and: 






- Albuquerque, N.M. 




4 


- Amarillo, Tex. 




2 


- Atlanta, Ga. 




6 


- Baltimore, Md. 




2 


- Chicago, 111. 




41 


- Cincinnati, Ohio 




2 


- Dallas, Tex. 




18 


- Denver, Colo. 




19 


- Detroit, Mich. 




4 


- Indianapolis, Ind. 




4 


- Las Vegas, Nev. 




2 


- Little Rock, Ark. 




2 


- Los Angeles, Calif. 




12 


- Louisville, Ky. 




2 


- Memphis, Tenn. 




8 


- Minneapolis /St. Paul, 


Minn. 


6 


- New Orleans, La. 




2 


- New York, N.Y. 




4 


- Philadelphia, Pa. 




2 


- Phoenix, Ariz. 




3 


- San Francisco, Calif. 




5 


- Seattle, Wash. 




2 


- Washington, D.C. 




1 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



342 



Page 2 



Comparison 



of Non-stop Scheduled Services (cont'd.) 



Average Daily 
Non-stop 
Services 



(1973 Actual) 



MISSOURI (cont'd.) 
Between: 
St. Louis 
and: 

- Atlanta, Ga. 

- Baltimore, Md. 

- Boston, Mass. 

- Charlotte, N.C. 

- Cleveland, Ohio 

- Cincinnati, Ohio 

- Dallas, Tex. 

- Dayton, Ohio 

- Denver, Colo. 

- Detroit, Mich. 

- Houston, Tex. 

- Huntsville/Decatur, Ala. 

- Las Vegas, Nev. 

- Little Rock, Ark. 

- Louisville, Ky. 

- Los Angeles, Calif. 

- Memphis. Tenn. 

- Miami, Fla. 

- Minneapolis/St. Paul, Mi 

- New Orleans, La. 

- New York, N.Y. 

- Oklahoma City, Okla. 

- Omaha, Nebr. 

- Philadelphia, Pa. 

- Phoenix, Ariz. 

- Pittsburgh, Pa. 

- San Francisco, Calif. 

- Seattle, Wash. 

- Tulsa, Okla. 

- Tampa, Fla. 

- Washington, D.C. 



2 
4 
2 

9 
10 
14 
10 
14 
6 
8 
2 
3 
6 
5 
11 
26 
5 
6 
4 
18 
2 
9 
5 
7 
8 
4 
3 
11 
5 
11 



Services 

at 

Maximum 



Assigned 
Earnings 



(Simulation) 



343 

COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



Between; 

Billings 

and: 

- Chicago, 111. 2 2 

- Denver, Colo. 4 2 

- Minneapolis /St. Paul, Minn. 2 2 

Great Falls 
and: 

- Salt Lake City, Utah 2 2 



344 



COMPARISON OF NON-STOP SCHEDULED SERVICES 

1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

NEBRASKA 
Between: 
Lincoln 
and: 

- Chicago, 111. 4 2 

- Denver, Colo. 4 2 

Omaha 
and: 

- Chicago, 111. 19 10 

- Denver, Colo. 15 2 

- Los Angeles, Calif. 6 2 

- Minneapolis/St. Paul, Minn. 13 6 

- San Francisco, Calif. 2 2 

- Seattle, Wash. 3 2 

- St. Louis, Mo. 9 4 



345 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - B 



oth Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily 

Non-Stop 

Services 

(1973 Actual) 



Services Assigned 



Maximum Earnings 
(Simulation) 



Between: 
Las Vegas 
and: 



- Albuquerque, N.M. 


5 


- Atlanta, Ga. 


2 


- Chicago, 111. 


19 


- Dallas, Tex. 


6 


- Denver, Colo. 


14 


- Detroit, Mich. 


2 


- Grand Junction, Colo. 


2 


- Houston, Tex. 


6 


- Kansas City, Mo. 


2 


- Milwaukee, Wis. 


1 


- Minneapolis /St. Paul, Minn. 3 


- New York, N.Y. 


7 


- Phoenix, Ariz. 


. 14 


- St. Louis, Mo. 


2 


- Salt Lake City, Utah 


17 


- San Francisco, Calif. 


31 


:eno 




and; 




- Boise, Idaho 


2 


- Chicago, 111. 


2 


- Denver, Colo. 


4 


- Los Angeles, Calif. 


6 


- Portland, Oreg. 


6 


- Salt Lake City, Utah 


7 


- Seattle, Wash. 


2 



346 

COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and.it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



NEW HAMPSHIRE 
Between: 
Manchester 
and: 
Cleveland, Ohio 



Average Daily Services Assigned 

Non- Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



347 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
, adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 
NEW JERSEY 

None. 



348 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

NEW MEXICO 
Between: 
Albuquerque 
and: 

- Chicago. 111. 9 4 

- Colorado Springs, Colo. 5 2 



Dallas, Tex. n 

- Denver, Colo. 15 

- Kansas City, Mo. 4 

- Las Vegas, Nev. 5 

- Los Angeles, Calif. 12 

- Lubbock, Tex. 2 

- Midland, Tex. 3 



Oklahoma City, Okla. 2 2 

Phoenix, Ariz. 4 2 

San Antonio, Tex. 2 2 

San Francisco, Calif. 5 4 

Wichita, Kan. 2 2 



349 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 





Non-Stop 


at 




Services 


Maximum Earnings 




(1973 Actual) 


(Simulation) 


NEW YORK 






Between: 






Albany 






and: 






- Boston, Mass. 


9 


2 


- Buffalo, N.Y. 


11 


2 


- Chicago, ni. 


6 


2 


- Detroit, Mich. 


4 


2 


Buffalo 






and: 






- Chicago. 111. 


15 


6 


- Cleveland, Ohio 


13 


4 


- Detroit, Mich. 


11 


2 


- Miami. Fla, 


2 


2 


- New York. N.Y. 


29 


10 


- Philadelphia, Pa. 


4 


2 


- Pittsburgh, Pa. 


17 


6 


- Washington, D.C. 


11 


2 


Islip 






and: 






- Chicago, ni. 


2 


2 


New York 






and 






- Atlanta. Ga. 


57 


14 


- Birmingham, Ala. 


5 


2 


- Boston, Mass. 


121 


60 


- Buffalo. N.Y. 


29 


10 


- Charleston, S. C. 


2 


2 



350 



r>^^p..i..on of Non-stop Scheduled Services (cont'd) 



Page 2 



Average Daily 

Non-Stop 

Services 

(1973 Actual) 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



NEW YORK (cont'd) 
Between: 
New York (cont'd) 
and: 

- Charleston, W. Va. 

- Charlotte, N.C. 

- Chicago, 111. 

- Cincinnati, Ohio 

- Cleveland, Ohio 

- Columbia, S. C. 

- Columbus, Ohio 

- Dallas, Texas 

- Dayton, Ohio 

- Daytona Beach, Fla. 

- Denver, Colo. 

- Detroit, Mich. 

- Ft. Lauderdale, Fla. 

- Greensboro, N.C. 
-Greenville/Spartanburg. S.C, 

- Houston. Texas 

- Indianapolis, Ind, 

- Jacksonville, Fla. 

- Kansas City. Mo. 

- Knoxville, Tenn. 

- Las Vegas, Nev. 

- Lexington, Ky. 

- Los Angeles, Calif. 

- Louisville, Ky. 

- Memphis, Tenn. 

- Miami, Fla. 

- Milwaukee, Wis. 

- Minneapolis /St. Pool, Minn. 

- Nashville, Tenn. 

- Norfolk. Va. 

- New Orleans, La. 

- Newport News, Va. 

- Oklahoma City, Okla. 

- Orlando. Fla. 

- Phoenix, Ariz. 

- Pittsburgh, Pa. 

- Portland, Maine 

- Raleigh/ Durham, N.C. 



2 
18 
117 
15 
43 
6 
14 
25 
11 
1 
16 
56 
44 
13 
. 6 
5 
8 
2 
4 
5 
7 
2 
25 



16 

16 

6 

14 

12 

3 

2 

17 



2 
4 
36 
4 
12 
2 
4 
8 
4 
2 
4 
12 
14 
2 
2 
4 
4 
4 
2 
2 
4 
2 

12 
4 
4 
20 
6 
4 



351 



Comparison of Non-Stop Scheduled Services (cont'd) 



Page 3 



NEW YORK (cont'd) 
Between: 
New York (cont'd) 
and: 

- Richmond. Va. 

- Rochester, N. Y. 

- Saginaw, Mich. 

- Salt Lake City, Utah 

- St. Louis, Mo. 

- San Diego, Calif. 

- San Francisco, Calif. 

- Seattle. Wash. 

- Syracuse, N, Y. 

- Tampa, Fla. 

- Toledo, Ohio 

- Washington, D. C. 

- West Palm Beach, Fla. 

- Youngstown, Ohio 



Average Daily 
Non-Stop 
Services 

(1973 Actual) 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



Rochester 
and: 

- Atlanta. Ga. 

- Chicago, ni. 

- Cleveland, Ohio 

- Detroit. Mich. 

- New York, N. Y. 

- Philadelphia. Pa. 

- Pittsburgh. Pa. 

- Washington. D. C. 

Syracuse 
and: 

- Atlanta. Ga. 

- Chicago, 111. 

- Detroit, Mich. 

- New York. N. Y. 

- Philadelphia, Pa. 

- Washington, D.C. 



352 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 

This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



NORTH CAROLINA 



Between 




Charlotte 




and: 




- Akron/Canton, Ohio 


2 


- Atlanta, Ga. 


25 


- Boston, Mass. 


2 


- Chattanooga, Tenn. 


6 


- Chicago, 111. 


7 


- Columbus, Ohio 


4 


- Memphis, Tenn. 


4 


- Miami, Fla. 


4 


- New York, N.Y. 


18 


- Orlando, Fla. 


2 


- Philadelphia, Pa. 


6 


- Pittsburgh. Pa. 


8 


- St. Louis, Mo. 


2 


- Washington, D.C. 


6 


Greensboro 




and: 




- Atlanta, Ga. 


12 


- Chicago, 111. 


8 


- Huntsville/Decatur, Ala. 


2 


- New York, N.Y. 


13 


- Pittsburgh, Pa. 


2 


- Washington, D.C. 


6 



353 



Page 2 

Comparison of Non-Stop Scheduled Services (cont'd.) 



Average Daily Services Assigned 

Non-Stop 

Services Maximum Earnings 

TT973 Actual) (Simulation) 

N ORTH CAROLINA (Cont'd.) 
Between: 
Raleigh/Durham 



and: 

- Atlanta, Ga. 12 



6 4 



Chicago, HI 
Miami, Fla. 
New York, I 
Philadelphia, Pa. 2 2 



Miami, Fla. 2 2 

New York, N. Y. 12 4 



354 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-stop at 

Services Maximum Earnings 
(1973 Actual) (Simulation) 

NORTH DAKOTA 



Between; 
Bismarck 



and: 
- Minneapolis/St. Paul, 



355 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Ear 





(1973 Actual) 


OHIO 






Between 






Akron/Canton 






and: 






- Atlanta, Ga. 




2 


- Charlotte, N.C. 




2 


- Chicago. 111. 




7 


Cleveland 






and: 






- Atlanta, Ga. 




12 


- Baltimore, Md. 




4 


- Boston, Mass. 




10 


- Chicago, 111. 




34 


- Dallas, Tex. 




5 


- Denver, Colo. 




2 


- Ft. Lauderdale, Fla. 




6 


- Hartford, Conn. 




4 


- Houston, Tex. 




2 


- Los Angeles, Calif. 




9 


- Louisville, Ky. 




4 


- Manchester, N.H. 




2 


- Miami, Fla. 




5 


- Milwaukee, Wis. 




6 


- Minneapolis/St. Paul, 


Minn. 


4 


- New York, N. Y. 




43 


- Norfolk, Va. 




2 


- Orlando, Fla. 




2 


- Philadelphia, Pa. 




15 


- Providence, R. I. 




2 


- Rochester, N.Y. 




4 



(Si 



ition) 



ungs 



356 



Page 2 
Comparison of Non-Stop Scheduled Services (cont'd.) 



Average Daily Services Assigned 

Non-stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

OHIO (Cont'd.) 
Between: 
Celveland (cont'd.) 
and: 

- San Francisco, Calif. 2 2 

- St. Louis, Mo. 9 4 

- Tampa, Fla. 5 2 

- Washington, D,C. 19 2 



and: 




- Atlanta, Ga. 


14 


- Birmingham, Ala. 


2 


- Boston, Mass. 


5 


- Dallas, Tex. 


7 


- Detroit, Mich. 


14 


- Kansas City, Mo. 


2 


- Knoxville, Tenn. 


5 


- Memphis, Tenn. 


3 


- Miami, Fla. 


4 


- Nashville, Tenn. 


7 


- New York, N.Y. 


15 


- Orlando, Fla. 


2 


- Philadelphia, Pa. 


2 


- Pittsburgh, Pa. 


9 


- St. Louis, Mo. 


10 


- Tampa, Fla. 


4 


- Washington, D.C. 


7 


Columbus 




and: 




- Atlanta, Ga. 


5 


- Boston. Mass. 


3 


- Charlotte, N.C. 


4 


- Chicago, 111. 


15 


- Los Angeles, Calif. 


2 


- Louisville, Ky. 


4 


- Miami, Fla. 


4 


- New York, N.Y. 


14 


- Philadelphia, Pa. 


5 


- Tampa, Fla. 


2 


- Washington, D.C. 


9 



357 



Page 3 

Comparison of Non-Stop Scheduled Services (cont'd.) 



OHIO (Cont'd.) 
Between: 
Dayton 
and: 
- Atlanta, Ga. 11 



Average Daily Services Assigned 
Non-Stop at 

Services Maximum Earnings 
(1973 Actual) (Simulation) 



- Memphis, Tenn. 2 2 

- New York, N. Y. 11 4 

- St. Louis, Mo. 10 2 

- Tampa, Fla, 2 2 

- Washington, D.C. 8 4 

Toledo 
and: 

- New York, N. Y, 2 2 

Youngstown 
and: 

- Chicago, 111. 5 2 

- New York. N. Y. 2 2 



358 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE; This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 





Average Daily 


Services Assigned 




Non-stop 




at 




Services 


Maximi 
(Sir 


jm Earnings 




(1973 Actual) 


nulation) 


OKLAHOMA 








Between: 








Oklahoma City 








and: 








- Albuquerque, N.M. 


2 




2 


- Chicago, 111. 


7 




4 


- Dallas, Tex, 


26 




4 


- Houston, Tex. 


3 




2 


- Little Rock, Ark. 


2 




2 


- Los Angeles, Calif. 


8 




4 


- New York. N.Y. 


2 




2 


- Phoenix, Ariz. 


4 




2 


- St. Louis,' Mo. 


2 




2 


- San Francisco, Calif. 


3 




2 


Tulsa 








and: 








- Chicago, 111. 


7 




4 


- Denver, Colo. 


2 




2 


- Houston, Tex. 


5 




4 


- Nashville, Tenn. 


2 




2 


- St. Louis. Mo. 


11 




4 


- Washington, B.C. 


2 




2 



359 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE; This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services M aximum Earnings 

(Simulation) 





(1973 Actual) 


OREGON 




Between: 




Eugene 




and: 




- San Francisco, Calif. 


8 


Medford 




and: 




- San Francisco, Calif. 


6 


Portland 




and: 




- Boise, Idaho 


4 


- Chicago, III. 


11 


- Dallas, Tex. 


4 


- Denver, Colo. 


14 


- Los Angeles, Calif. 


16 


- Phoenix, Ariz. 


2 


- Reno, Nev. 


6 


- Sacramento, Calif. 


2 


- San Francisco, Calif. 


28 


- Spokane, Wash. 


8 



360 

COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-Stop at 

Services Maximum Earnings 
(1973 Actual) (Simulation) 

PENNSYLVANIA 



Between: 




AUentown 




and: 




- Chicago, III. 


3 


- Pittsburgh. Pa. 


7 


Scranton/Wilkes Barre 




and: 




- Chicago, 111. 


2 


- Pittsburgh, Pa. 


18 


Philadelphia 




and: 




- Atlanta, Ga. 


25 


- Boston, Mass. 


42 


- Buffalo, N.Y. 


4 


- Charlotte, N.C. 


6 


- Cincinnati, Ohio 


2 


- Cleveland. Ohio 


15 


- Columbus, Ohio 


5 


- Dallas, Tex. 


5 


- Denver, Colo. 


2 


- Detroit, Mich. 


14 


- Ft. Lauderdale, Fla. 


7 


- Hartford, Conn. 


11 


- Houston, Tex. 


2 


- Indianapolis, Ind. 


2 


- Jacksonville, Fla. 


3 


- Kansas City, Mo. 


2 


- Los Angeles, Calif. 


10 



361 



Comparison of Non-Stop Scheduled Services (cont'd. ) 



Page 2 



Average Daily 
Non-Stop 
Services 
(1973 Actual) 
PENNSYLVANIA (cont'd. ) 
Between; 
Philadelphia (cont'd. ) 
and: 

- Miami, Fla. 14 

- Minneapolis/St. Paul, Minn. 4 

- New Orleans, La. 3 

- Norfolk, Va. 11 

- Orlando, Fla. 2 

- Pittsburgh, Pa. 39 

- Providence, R.I. 7 

- Raleigh/Durham, N.C. 2 

- Rochester, N. Y. 3 

- St. Louis, Mo. 5 

- San Francisco, Calif. 7 

- Tampa, Fla. 8 

- Syracuse, N. Y. 6 

Pittsburgh 
and: 

- AUentown, Pa. 7 

- Atlanta, Ga. 15 

- Baltimore, Md. 12 

- Boston, Mass. 11 

- Buffalo, N. Y. 17 

- Charlotte, N.C. 8 

- Chicago, 111. 44 

- Cincinnati, Ohio 9 

- Dallas. Tex. 4 

- Detroit, Mich. 14 

- Ft. Lauderdale, Fla. 5 

- Greensboro/High Point, N.C. 2 

- Harrisburg, Pa. 18 

- Hartford, Conn. 10 

- Houston, Tex. 2 

- Indianapolis, Ind. 5 

- Knoxville, Tenn. 2 

- Los Angeles, Calif. 3 

- Miami, Fla. 10 

- Milwaukee, Wis. 2 

- New Orleans, La. 4 

- New York, N. Y. 61 



Services Assigned 

at 
Maximum Earnings 
(Simulation) 



362 



Page 3 
Comparison of Non-Stop Scheduled Services (cont'd.) 

Average Daily Services Assigned 

Non-Stop 



PENNSYLVANIA (cont'd. ) 
Between: 
Pittsburgh (cont'd. ) 
and: 

- Philadelphia, Pa. 

- Rochester, N.Y. 

- St. Louis, Mo. 

- San Francisco, Calif. 

- Tampa, Fla. 

- Tri City, Tenn. 

- Washington, D.C. 



at 
Ser vices Maximum Earnings 

(1973 Actual) (Simulation) 



!9 12 

4 2 

8 4 

2 2 



6 2 

2 2 

15 6 



363 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 

NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 
Services Maximum Earnings 

(1973 Actual) (Simulation) 
RHODE ISLAND 
Between: 
Providence 
and: 

- Atlanta. Ga. 2 2 

- Chicago, ni. 4 2 

- Cleveland, Ohio 2 2 

- Philadelphia, Pa. 7 2 

- Washington. D. C. 11 4 



364 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
19 73 Actual vs. Simvilated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



SOUTH CAROLINA 
Between: 
Charleston 



and: 

- Atlanta, Ga. 6 4 

- New York. N.Y. 2 2 

- Norfolk. Va. 6 2 

- Washington. D. C. 4 4 

Columbia 
and: 

- Chicago, ni. 2 2 

- New York. N.Y. 6 2 

- Washington. D. C. 2 2 

Greenville /Spartanburg 
and: 

- New York. N.Y. 6 2 

- Washington. D. C. 2 2 



365 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

SOUTH DAKOTA 
Between 
Rapid City 
and: 

- Denver, Colo. 6 4 

- Minneapolis /St. Paul, Minn. 2 2 

- Salt Lake City. Utah 2 2 

Sioux Falls 
and: 

- Denver, Colo. 4 2 

- Salt Lake City, Utah 2 2 



;uu> 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
197S Actual vs. Simulat«si for Profit Maximisation 



Flighti 



Both Directions 



NOTE: This oom|>i»r\son does not include c»t,v-fvj»»rs \i\ which profit 
maxmiiKation xH'Ould result in no service, and it does not 
uviicato t*\e public service consequences of elimination of 
;»dts^uAte frtx^uonoics to meet peak demand. 



TENNESSEE 
Betxreen: 
Chattamx>ga 
aivi: 
- Charlotte. N.C 



Aver;\j;e Daily 
Non-Stop 
Services 

(1S17S Actual^ 



Services Assipied 

at 

Maximum Farniivgs 

(Simulation^ 



Knoxville 
and: 

- Chicago. 111. 

- Cincuuiati, Ohio 

- HuntsvUle/Decatur. 

- Louisville, K>'. 

- Memphis. Tenn. 

- NashvUIe. Tenn. 

- Nevr York. N.Y. 

- Pittsburgh. Pa. 

- Washington. D. C. 



Memphis 
aixi: 

- Atlanta. Oa. 18 

- Birmingham, Ala. 9 

- Charlotte, N.C. 4 

- Chicago, 111. 19 

- Cincinnati, Ohio S 

- Dallas, Texas 15 

- Da>-ton, Ohio i 

- Denver, Colo. i 

- Detroit, Mich. 3 

- Houston. Texas S 

- Indianapolis. Ind. 7 

- Jackson Vicksburs:. Miss. 16 



'MM 



CoinpariBon of Non-Stop SchfJulfd Servicee (cont'd) 



l'at;<r 2 



TENNESSEF: (cont'd) 
Between: 
MemphJB (cont'd) 
and: 

- Kansas City, Mo. 

- Knoxville, Tenn. 

- Little Rock. Ark. 

- LoB Angeles, Calil 

- Louisville, Ky. 

- Nashville, Tenn. 

- New Orleans, La. 

- New York, N. Y. 

- St. Louis, Mo. 

- Shreveport, La. 

- Washington, D. C. 



Average Daily Servicee Aissigned 

Non-Stop at 

Service Maximum EarningB 

(1973 Actual) (Simulation) 



Nashville 
and: 

- Atlanta, Ga. 

- Chicago, lU. 

- Cincinnati, Ohio 

- Dallas/ Ft. Worth, Texas 

- Houston, Texas 

- Knoxville, Tenn. 

- Little Rock, Ark. 

- Memphis, Tenn. 

- New Orleans, La. 

- New York. N. Y. 

- Tampa, Fla. 

- Tulsa, Okla. 

- Washington, D.C. 



ill 



Pittsburgh, Pa. 



368 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services 

(1973 Actual) 



Maximum Earnings 
(Simulation) 



Between: 
Amarillo 
and: 

- Dallas. Texas 

- Kansas City, Mo. 

- Phoenix, Ariz. 



Midland, Texas 
Washington. D.C. 



Brownsville 



Houston, Texas 



Corpus Christi 




and: 




- Dallas. Texas 


4 


Dallas 




and: 




- Albuquerque, N. M. 


11 


- Alexandria, La. 


4 


- Amarillo, Texas 


6 


- Atlanta, Ga. 


31 


- Baltimore, Md. 


5 


- Boston, Mass. 


2 


- Chicago, 111. 


25 


- Cincinnati, Ohio 


7 


- Cleveland, Ohio 


5 



Page 2 



Comparison of Non-Stop Scheduled Services (cont'd) 



Average Daily 
Non-Stop 
Services 

(1973 Actual) 



TEXAS (cont'd) 
Between: 
Dallas (cont'd) 



and: 

- Colorado Springs, Colo. 3 

- Corpus Christi, Texas 4 

- Denver, Colo. 25 

- Detroit, Mich. 7 

- El Paso, Texas 12 

- Indianapolis, Ind. 5 

- Jackson/ Vicksburgh, Miss. 3 

- Kansas City, Mo. 18 

- Las Vegas, Nev. 6 

- Little Rock, Ark. 14 

- Los Angeles, Calif. 26 

- Louisville, Ky. 3 

- Lubbock, Texas 19 

- Memphis, Tenn. 15 

- Miami, Fla. 11 

- Midland/Odessa, Texas 15 

- Minneapolis /St. Paul, Minn. 4 

- Nashville, Tenn. 9 

- New Orleans, La. 24 

- New York, N. Y. 25 

- Orlando, Fla. 2 

- Philadelphia, Pa. 5 

- Phoenix, Ariz. 17 

- Pittsburgh, Pa. 4 

- Portland, Ore. 4 

- St. Louis, Mo. 14 

- San Diego. Calif. 6 

- San Francisco, Calif. 18 

- Seattle, Wash. 4 

- Shreveport, La. 17 

- Tampa, Fla. 7 

- Tucson, Ariz. 6 

- Washington, D, C. 14 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



El Paso 
and: 

- Chicago, Illinois 

- Dallas, Texas 

- Los Angeles, Calif. 

- San Antonio. Texas 



370 



Pages 



Comparison o 



f Non-stop Scheduled Services (cont'd) 



Average Daily 
Non-Stop 
Services 

(1973 Actual) 



Services Assigned 



TEXAS (cont'd) 
Between: 
Houston 
and: 



- Atlanta, Ga. 


26 


- Baltimore, Md. 


2 


- Brownsville, Texas 


5 


- Chicago, 111. 


14 


- Cleveland, Ohio 


2 


- Denver, Colo. 


9 


- Las Vegas, Nev. 


6 


- Little Rock, Ark. 


2 


- Los Angeles, Calif. 


14 


- Memphis, Tenn. 


3 


- Miami, Fla. 


7 


- Midland/Odessa, Texas 


2 


- Nashville, Tenn. 


2 


- New Orleans, La. 


36 


- New York, N.Y. 


5 


- Oklahoma City, Okla. 


3 


- Philadelphia, Pa. 


2 


- Phoenix, Ariz. 


1 


- Pittsburgh, Pa. 


2 


- St. Louis, Mo. 


8 


- San Francisco, Calif. 


5 


- Shreveport, La. 


7 


- Tampa, Fla. 


1 


- Tulsa, Okla. 


5 


- Washington, D.C. 


4 


Lubbock 




and: 




- Albuquerque, N.M. 


2 


- Dallas, Texas 


19 


- El Paso, Texas 


4 


Midland/Odessa 




and: 




- Albuquerque, N.M. 


3 


- Austin, Texas 


4 


- Dallas, Texas 


15 


- Denver, Colo. 


2 


- Houston, Texas 


2 


- San Antonio, Texas 


6 



Maximum Earnings 
(Simulation) 



2 

2 

4 

2 

2 

2 

2 

6 

2 

2 

2 

2 
14 
4 
2 
2 
2 
2 
2 
2 
2 
2 
4 
2 



371 



Comparison of Non-Stop Scheduled Services (cont'd) 



Page 4 



Average Daily 
Non-Stop 
Services 

(1973 Actual) 



TEXAS (cont'd) 




Between: 




San Antonio 




and: 




- Albuquerque, N. M. 


2 


- Atlanta, Ga. 


7 


- Chicago, 111. 


7 


- El Paso, Texas 


10 


- Los Angeles, Calif. 


3 


- Midland/Odessa, Texas 


6 


- New Orleans, La. 


3 


- Phoenix, Ariz. 


2 


- San Francisco, Calif. 


3 



Services Assigned 

at 

Maximum Earnings 

(Simulation) 



372 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Flights Per Day - Both Pi 



rections 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-stop at 



Services Maximum Earnings 

(1973 Actual) (Simulation) 



UTAH 
Between: 
Salt Lake City 
and: 

- Casper, Wyo. 

- Chicago, 111. 

- Denver, Colo. 

- Great Falls, Mont. 

- Las Vegas, Nev. 1|^ 

- Los Angeles, Calif. 

- New York. N. Y. 

- Rapid City, S. D. 

- Reno, Nev. 

- Sacramento, Calif. 

- San Francisco, Calif. 

- Sioux Falls, S.D. 



2 2 

15 6 

26 14 

2 2 

7 8 

12 6 

2 2 

2 2 

7 4 

2 2 

11 2 

2 2 



373 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



V ERMONT 
Between: 
Burlington 
and: 
- Detroit, 



374 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



Between: 
Newport- News 
and: 

- Atlanta, Ga. 2 2 

- Chicago, 111. 2 2 

- New York, N. Y. 3 2 



and: 

- Atlanta. Ga. 5 4 

- Charleston. S. C. 6 2 

- Chicago, 111. 7 4 

- Cleveland, Ohio 2 2 

- Jacksonville, Fla. 1 2 

- New York, N. Y. 14 6 

Richmond 
and: 

- Atlanta. Ga. 8 4 

- New York, N. Y. 10 6 



375 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



NOTE: This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 

Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 

WASHINGTON 



Between: 




Seattle 




and: 




- Boise, Idaho 


2 


- Chicago, m. 


15 


- Dallas, Texas 


4 


- Denver, Colo. 


13 


- Kansas City. Mo. 


2 


- Los Angeles. Calif. 


18 


- Minneapolis/St. Paul, Minn. 8 


- New York. N. Y. 


5 


- Omaha. Neb. 


3 


- Reno, Nev. 


2 


- St. Louis, Mo. 


3 


- San Diego. Calif. 


2 


- San Francisco. Calif. 


31 


Spokane 




and: 




- Chicago, ni. 


2 


- Denver. Colo. 


3 


- Minneapolis /St. Paul. Minn. 4 


- Portland. Ore. 


8 


- San Francisco. Calif. 


4 



376 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual ys. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not Include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assi 

Non-Stop at 

Services Maximum Earnin 



(1973 Actual) (Simulation) 



gs 



WEST VIRGINIA 
Between: 
Charleston : 
and; 
- New York, N. Y. 



377 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily 

Non-Stop 

Services 

(1973 Actual) 



WISCONSIN 




Between; 




Milwaukee 




and: 




- Atlanta, Ga. 


6 


- Boston, Mass. 


2 


- Cleveland, Ohio 


6 


- Denver, Colo. 


6 


- Las Vegas, Nev. 


1 


- Los Angeles, Calif. 


4 


- Minneapolis/St. Paul. Minn. 12 


- New York, N.Y. 


16 


- Pittsburgh, Pa. 


2 


- Tampa, Fla. 


2 


- Washington, D.C. 


2 



Services Assigned 



Maximum Earnings 
(Simulation) 



378 



COMPARISON OF NON-STOP SCHEDULED SERVICE.- 
1973 Actual vs. Simulated for Profit Maximization 

Flights Per Day - Both Directions 



This comparison does not include city-paii-s in which profi 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Assigned 
Non-Stop at 

Services Maximum Earnings 
(1973 Actual) (Simulatior,) 



Between; 
Casper 
and: 
- Salt Lake City, Utah 



379 

U.S. Senate, 
Washinffton, B.C., May 2, 1975. 
Mr. George W. .Tames, 
Air Transport Association, 
Washinffton, D.G. 

Dear Mr. James : I have received and reviewed your April 25 letter and the 
accompanying study relating to possible consequences of deregulation of the 
scheduled air transport industry. I want to thank you for complying with the 
subcommittee's request that you undertake a study and for the efforts you and 
others have made to complete it in a timely fashion. 

A preliminary review of the study suggests that basing the study's computer 
model on the predicted behavior of a monopolist, as was done, materially affects 
the accuracy and predictive value of the study. This monopolist model does not 
take into account the fundamental fact that deregulation means there would be 
a competitive, multiairline environment, in which any particular airline would 
have to behave as a competitor, not a monopolist. 

Even if your study were based on a model that could reasonably identify 
"unprofitable" routes in a competitive system, the conclusions you chose to draw 
in your letter to me may seriously misstate the probable level of air service 
under deregulation. First, several of the nonstop route segments identified by 
the ATA as candidates for cessation or reduction of service have in fact already 
been abandoned by the trunk carriers under CAB regulation. Second, of those 
segments presently receiving nonstop trunk service, many are simultaneously 
served by local .service, intrastate, or commuter carriers, who would l)e likely to 
continue or even increase service if the competing trunk carrier reduced or dis- 
continued its service. Third, a significant number of the segments do in fact now 
receive connecting, one- or multistop service by trunks, local service, intrastate 
or commuter carriers, so reduction or discontinuance of nonstop trunk service 
would certainly not mean cessation of all air service to the commiuiities involved. 

One further ix)int. According to United Air Lines, which serves a large percent- 
age of the routes you claim would be abandoned if carriers were free to do so, 
many of the so-called "unprofitable" nonstop trunk segments are in reality profit- 
able. As United explained to the subcommittee staff, they would continue to be 
served on a nonstop basis because they are flown in order to feed passengers to 
other segments or flights which, when taken together, generate sufl5cient revenues 
to cover or exceed costs. Even other nonstop segments you identified for possible 
extinction would still be flown, according to United, because they are used to 
ferry or position aircraft that are better flown with some passengers than empty. 
There is every reason to believe, therefore, that the otlier trunk airlines would 
make a similar analysis of their so-called "unprofitable" routes. 

It is my understanding that many of the points I have raised were discussed 
with you by the subcommittee staff prior to the release of your study, and that the 
ATA would make an effort to verify and include then in the final presentation 
and release of the study itself. In any case, I am sure you would agree that it is 
important to present a fuller and more accurate analysis than is implied by your 
April 25 letter to the many governmental, industry and consumer parties who are 
genuinely interested in the i.isues of regulatory reform. Accordingly, I would 
suggest that a copy of this letter be furnished to those who have been or will be 
furnished copies of the study. 

The study and your accompanying conl^lusions are now being analyzed more 
fully by tlie subcommittee, several executive agencies, and by a number of 
economists at various universities. AVhen these analyses are completed, I will 
make then available to you. 

Thank you for your continuing participation in the subcommittee's inquiry. 
Sincerely, 

Edward M. Kennedy, 
Chairman, Subcommittee on Administrative Practice and Procedure. 



380 

Air Transport Association of America, 

Washington, D.C., May 8, 1975. 
Hon. Edward M. Kennedy, 
U.S. Senate, 
Washington, D.C. 

Dear Senator Kennedy : Thank you for your May 2, 1975, letter commenting 
on the Air Transport Association's April 25 study on "The Consequences of De- 
regulation of the Scheduled Air Transport Industry." We appreciate the elforts 
you and your staff have made in reviewing the comprehensive analysis of de- 
regulation of the present airline system which we prepared in response to your 
request of February 7, 1975. 

Based on your May 2 letter, there appears to be a shift in the frame of refer- 
ence from your original request to us on February 7, in that your interpretation 
of the study is based on a different premise than your original request to us. 

1. In your February 7 letter, which is attached, you asked us for "a list of 
those city-pairs that are now unprofitable and might be abandoned." We furnished 
such a list. As requested, the study looked at each route in the present trunk 
system using the latest available data. It identified 372 nonstop routes where 
incremental cost exceeded incremental revenue, a condition of unprofitability 
which highlights such routes as prime candidates for abandonment. These 372 
unprofitable trunk routes, together with the 826 subsidized routes of the regional 
air carriers, comprised the list you requested of scheduled airline routes which 
"are now unprofitable and might be abandoned." 

2. You suggest that our study may be inaccurate because you feel it is based 
on the "predicted behavior of a monopolist." We believe such a conclusion is in- 
correct since our analysis was based on the competitive, multiairline environ- 
ment actually in ))eing in the present route patterns of 18 trunk and regional 
air carriers. We attempted neither to contrive a monopolist system nor to recast 
the present national system of competitive air service. We did, however, extend 
our analysis of the present system by examining the possibility of increased com- 
petition entering the currently profitable routes. The results showed a lowering 
of profitability on these routes as well as an increase in the number of currently 
unprofitable routes. 

3. You also suggested that our study may overstate the probable decline in 
air service resulting from deregulaton. Mr. Stephen Breyer of your staff made 
similar points when we provided him with a preliminary review of our study 
on April 17. However, as indicated in my letter of April 25. some service over 
the unprofitable routes identified in our study might be continued for such 
purposes as "feeding heavier traveled routes or aircraft positioning." Neverthe- 
less, as pointed out by United Air Lines, even after taking these factors into 
account, its judgement is that approximately 22 percent of all United's nonstop 
routes would likely be abandoned. However, it is our belief that some of the ' 
possible effect of deregulation may well be understated in our report when all 
air carrier routes are considered, since deregulation would encourage a heavier 
concentration on the more productive city-pair markets and less service in the 
marginal markets. 

In response to the request in your May 2 letter, we will send a copy of that letter, 
along with our response, to those who were or will be furnished a copy of our 
original study. 
Sincerely, 

George W. James, 
Senior Vice President. Economics and Finance. 



[Sample of the letters requesting an evaluation of the ATA study :] 

U.S. Senate, 
April 29, 1915. 
Prof. Roger Sherman, 

Department of Economics, University of Virginia, 
Charlottesville, Va. 

Dear Professor Sherman : The Subcommittee on Administrative Practice and 
Procedure, which I chair, has just completed 10 days of public hearings on Fed- 



381 

eral regulation of the airlines. During the course of those hearings, Dr. George 
James of the Air Transport As.sociation of America testified that in his view 
deregulation would result in substantial reduction of air service to small com- 
munities, and promised to undertake an empirical study concerning that assertion. 
I am enclosing a copy of the completed study and the covering letter from 
Dr. James. 

The subcommittee would find it most helpful if you would undertake to re- 
view the ATA study and provide comments to the subcommittee concerning the 
technical, economic, and policy implications of the study. I would specifically 
appreciate your views on whether the conclusions stated in Dr. James' letter are 
in fact supported by the study itself. As an independent economist of recognized 
ability, your assistance in this regard will be most valuable. 

If you have any questions, please contact Mr. Stephen Breyer, special counsel to 
the subcommittee, at (617) 495-i276 or Mr. Philip Bakes, assistant counsel, at 
(202) 224-5617. 

Thank you for your assistance and cooperation. 
Sincerely, 

Edward M. Kennedy, 

Chairman. 



THE CHAIRMAN OF Th 
COUNCIL OF ECONOMIC AC 
WASHINGTON 



May 1, 1975 



Dear Senator Kennedy: 

This is in response to your letter of April 28, 1975, requesting 
the Council's views on the recent Air Transport Association report. 
Consequences of Deregulation of the Scheduled Air Transport System : 
An Analytical Approach and the conclusions stated in Dr. George 
James' letter of transmittal dated April 25, 1975, 

I have asked James C. Miller, Senior Staff Economist at the 
Council of Economic Advisers in the transportation and regulation 
area to evaluate that study and the letter of transmittal. His report 
to me is attached. As you will note, Dr. Miller questions both the 
adequacy and the conclusions reached by the ATA study. He especially 
takes issue with the conclusion that deregulation would lead to a 
substantial reduction in scheduled air service. 

Thank you for giving the Council an opportunity to express its 
views on this important matter. 




Alan G 



Senator Edward M. Kennedy 

Chairman, Subcommittee on Administrative 

Practice and Procedure 
United States Senate 
Washington, D. C. 20510 



OV-UT'O^V^ 



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5 



(382) 



383 



UNITED STATES GOVERNMENT 

Memorandum 



Alan Greenspan 
Chairman 



date: May 1, 1975 




III 
'I Economist 



Air Transport Association's Analysis of the Consequences 
of Airline Deregulation 



This is in response to your request for my assess- 
ment of the Air Transport Association's (ATA's) recent 
report, Consequences of Deregulation of the Scheduled 
Air Transport Industry; An Analytical Approach , and 
whether it supports the conclusions contained in Dr. James 
letter of transmittal to Senator Kennedy dated April 25, 
1975. 

The ATA study is in response to Senator Kennedy's 
request for the industry to identify those "scheduled 
routes where service might be reduced or eliminated if 
each airline could set its own prices and could enter or 
exit any market at will" (Dr. James' letter, p.l). The 
study concludes that of the 994 trunk-carrier routes 
analyzed, "372 could be candidates for elimination under 
deregulation, while nearly all of the remaining 622 could 
experience sharp curtailment of service" (letter, p. 1) . 
The ATA also suggests that the 826 nonstop routes of the 
local service carriers identified as presently receiving 
subsidy would be candidates for elimination under de- 
regulation. The ATA therefore concludes that, "[i]t is 
conceivable that the 1,198 unprofitable, and subsidized, 
routes might not survive in a deregulated environment 
except in limited instances as an adjunct to more profit- 
able routes or under large subsidy payments by cities or 
the federal government" (letter, p. 2) . 

This memorandum evaluates the operations research 
model on which most of the ATA's conclusions are based, 
ATA's interpretation of that model, the ATA's other 
analysis, and the issue of cross-subsidy. 



Buy U.S. Savings Bonds Regularly on the Payroll Savings Plan 



384 

- 2 - 

Lockheed's Airline System Simulation -^ 

With respect to the effects of deregulation on trunk 
airline service, the ATA's conclusions arc based primarily 
on Lockheed's Airline System Simulation ("simulation" or *| 
"model"). The development of this model was begun in 1959 
under the overall direction of William A. Gunn. It was 
improved during 1960 and 1961 and became operational at' 
that time. In its present configuration the model is cap- 
able of simulating an airline routing network of up to 
250 city pairs. The model's objective is to maximize (net) 
earnings and its major outputs are the number and kinds 
of (optimal) aircraft and the routes served. 

As airline simulations go, the Lockheed model is 
a good one, being widely used and well respected. However, 
in my judgement models of this type should be used with 
extreme caution when put to special uses for which they 
were not primarily designed, such as identifying markets 
likely to be abandoned under "deregulation" .£./ Models 
such as these may be valuable tools for designing new 
aircraft (payload, range, et cetera ) or for suggesting 
to airline scheduling officials which markets to consider 
exploiting and which to consider abandoning, but they are 
inherently limited when it comes to answering specific 
questions such as whether the route between points A and 
3 is presently uneconomic, much less whether under a 
changed market environment (i.e., deregulation) the route 
would be uneconomic and, therefore presumably, abandoned. 



\/ This discussion is based on descriptions found in 
the following publications: Consequences of Deregulation 
of the Scheduled Air Transport Industry; An Analytical 
Approach (Washington: Air Transport Association, April 1975); 
Lockheed Airline System Simulation (Burbank: Lockheed- 
California Company, i;.d.); Revisions to 1969 Lockheed 
Indirect Operating Expense Method (BurbanK: Lockheed- 
California Company, July 1974); and William A. Gunn, "Airline 
System Simulation," Operations Research (March 1964) , pp. 206- 
29. 

2/ For purposes of this memorandum, "deregulation" may 
be regarded as the removal of all economic (but not safety) 
regulation and subjecting the industry to the antitrust laws. 
This appears to be what the ATA means by the term. It is 
notable that none of the Administration proposals presently 
under review contemplate this extreme form of deregulation. 
Although regulatory controls would be substantially reduced, 
some economic regulation would remain. 



385 



A first problem is the degree of realism that these 
models are able to achieve. In my Ph.D. disseration , ±/ 
for example, I attempted to construct a "realistic" airline 
routing model — one that accounted for indivisibility 
problems as well as for consumer preferences concerning 
the time of day they travel. The result was that a single 
run of this one city-pair market simulation took over half 
an hour, utilizing the entire 32 thousand word core of a 
Burroughs 5500 computer. Since the complexity of the problem 
tends to increase geometrically with the number of city 
pairs examined, any model which accommodates up to 250 city 
pairs must make simplifying assumptions. As I concluded 
later in a work based on that disseration, 

"The utilization of scheduling models... to 
appraise airline efficiency awaits the develop- 
ment of technically superior, operational programs. 
But just as importantly, much work needs to be 
done in the formulation and testing of behavioral 
assumptions, for only then can we place a great 
deal of confidence in our results. "£/ 

In terms of the Lockheed model's specific assumptions 
(as they relate to the question of uneconomic flight seg- 
ments) , the cost issues are perhaps the most important. 
While the simulation bases its decisions to add route 
segments on "marginal costs," included in these marginal 
costs are depreciation expenses (ATA study, p. 5) . The 
reason is that the simulation "purchases" aircraft to assign 
to the routes brought into the system. During off-peak 
hours, the relevant (opportunity) cost of equipment may well 
be zero and thus inclusion of depreciation in the decision 
calculus tends to eliminate some routes that might well be . 
served by a profit-maximizing air carrier. Certainly, we 
observe a tendency today for "marginal" routes to be served 
during off-peak hours. A similar overestimation of costs 
on "marginal" routes may obtain when aircraft have to be 
"positioned" to meet the daily cycle, for maintenance, and 
for other purposes. 

1/ James C. Miller III, Scheduling and Airline 
Efficiency (Charlottesville: Department of Economics, 
University of Virginia, 1969) . 

2/ James C. Miller III, "A Time-of-Day Model for 
Aircraft Scheduling," Transportation Science (August 1972), 
p. 243. 



386 



- 4 - 

On the revenue side, there is likewise a problem 
of allocation. As is well known, carriers are perfectly 
willing to engage in the practice of scheduling "feeder" 
routes, even though the conventionally-apportioned costs 
of such routes may fall short of the revenues conventionally 
attributed to them. The reason is that many feeder passengers 
connect to other flights of the same carrier on which pro- 
fits would be recorded. In other words, the carrier earns 
more money by scheduling allegedly uneconomic services. 
This is not to suggest that there is cross-subsidization 
of routes: merely, the conventionally recorded revenue/ 
cost margins do not reflect the relevant revenue/cost 
margins (i.e., those perceived by the carrier). While the 
sequential mapping of flights accomplished by the model takes 
into account some of this phenomenon, it may not accomodate 
it all and therefore may identify many routes as uneconomic 
which a profit-maximizing carrier would choose to operate. 

Finally, as will be stressed in the next section, the 
model is incapable of simulating competition . It is 
designed for an analysis of a single firm. The model can 
simulate the reaction of rivals with what appears to be 
either of two extreme assumptions (at the option of the 
user): (a) completely passive behavior (i.e., rival firms 
make no change in their scheduling plans when the initiating 
carrier makes changes) , and (b) proportional market shares 
(i.e., rival firms react to any schedule change so as to 
maintain a fixed market share) . Under the second assump- 
tion, the result is clearly a price-regulated monopoly 
solution in each market . 1/ Under conditions where there is 
no rival Tas must be the case in the analysis performed 
for ATA), the same (regulated-monopoly) result obtains. 

ATA's Interpreation of the Simulation 

The interpretation the ATA has placed on the 
simulation excessively overstates the extent of route 
abandonments that might take place under deregulation. 
As mentioned above, the model is capable of simulating 
price-regulated monopoly , but not free and open competition . 2/ 

1/ See George W. Douglas and James C. Miller III, 
Economic Regulation of Domestic Air Transport: Theory and 
Policy (Washington: The Brookings Institution, 1974), 
Chapter IV. 

2/ This, interestingly, contradicts the usual industry 
assessment that the result of deregulation would be excess 
(not insufficient) competition. 



387 



At best the model can identify uneconomic routes — and, 
as I have indicated, there is reason to believe that the 
model tends to overstate these. 

A better idea of what the simulation .u'compliGhes 
can be obtained by referring to the attached figure, 
adapted from Figure 8 of the ATA study. As shown, under 
the prices prevailing in 1973, a nation-wide (price- 
regulated) monopoly air carrier (or a perfectly administered 
price-regulated airline cartel) would schedule 2,500 flights 
daily, would realize average load factors of 81.6 percent, 
and would earn net revenue of $5.5 million per day (see 
also ATA study, p. 7). If all fares were reduced (the 
same percentage) , the monopoly level of flights and earnings 
would fall, but average load factors would increase (reference 
curves labeled "-10%" and "-20%"). These levels of opera- 
tions ATA contrasts with 1973 regulated operations of 
approximately 7,300 daily flights, a system-wide average 
load factor of 55.7 percent, and approximately $1.1 million 
in daily net earnings. V If there were deregulation, accord- 
ing to the ATA, the model would indicate a deletion of 
approximately 4,800 daily flights based on a 1973 level of 
operations. With a fare reduction of 10 percent, approxi- 
mately 5,130 flights would be eliminated; and with a 20 
percent fare reduction approximately 5,322 flights would be 
dropped. The ATA also concludes that in eliminating the 
flights the industry would abandon 372 non-stop markets 
at 1973 fares, 471 non-stop markets at a 10 percent fare 
decrease, and 564 non-stop markets at a 20 percent fare 
decrease (ATA study, p. 7). 

The logic of ATA's assumption of a price-regulated 
monopoly outcome under deregulation can be tested with 
common sense. An earnings level of $5.5 million per day 
(1973 fares) translates into yearly earnings of approxi- 
mately $2,008 million. On the basis of 1973 total domestic 
trunkline investment of $8,051 million, this translates 
into a rate of return on investment (ROI) of approximately 
25 percent.!/ Presumably, however, in equilibrium, the 



1/ The 1973 levels of flights and earnings are 
approximate since they are read from the figure; the ATA 
does not present the data. 

2/ The ATA study is not clear whether these 
earnings are profits before interest payments on long- 
term debt and before taxes, after interest payments on 
long-term debt but before taxea, or before interest pay- 
ments on long-term debt but after taxes. Comparisons of 
ROI would of course depend on the definition used. 



388 







389 



- 7 - 

industry would reduce its investment base consonant with 
the lower level of operations. Assuming a proportional 
reduction, the (1973) investment base would be approxi- 
mately $2,757 million, indicating a ROI of api)roximatcly 
73 percent. To presume that under conditions of free entry 
a 73 percent ROI would not attract new entrants is pre- 
posterous! 

What would likely occur under deregulation can be 
inferred from the graph. First, assuming for the sake 
of argument that 1973 fares prevailed and that cost levels 
did not change, increased scheduling would occur until 
load factors had been driven down to approximately 55 
percent — the 1973 break-even level. At that point there 
would be approximately 7,400 flights daily and the industry's 
daily earnings would be approximately $1.0 million. Now, 
assuming again that costs did not change, on the basis of 
my work with George Douglas, 1^/ one might predict that 
average fares (or average yield) would decrease approxi- 
mately 16 percent, raising the break-even load factor to 
approximately 65 percent. As can be inferred from the figure 
(see added straight line connected to "L.F. = 75%" point 
on 1973 curve ) , the result would be a decrease in scheduling 
from approximately 7,300 flights per day to approximately 
6,800 flights per day. 2/ Using ATA's 1973 route abandonment 
figure of 372 and applying a rule of proportionality, this 
\;ould imply the abandonment of approximately 39 non-stop 
city-pair markets. However, any decrease in costs under 
deregulation (less circuitous routings, greater management 
efficiency, et cetera ) would shift all of the curves to the 
right. Depending on the degree of efficiency gains, the 
result might well be an increase in total scheduling and 
an increase in the number of city-pair markets served under 
deregulation, not decreases . 

ATA's Other Analysis 

The ATA also identifies 1,198 local service carrier 
routes which are presently receiving subsidy and thus 
might not be served if there were deregulation. While 

_!/ Douglas and Miller, ibid . 

2/ The exact position of this line cannot be ascer- 
tained without access to the simulation. The position 
shown is an informed judgement. (It must slope downward 
to the right since, with lower fares and more passengers, 
scheduling must increase in order to maintain the same load 
factor level. ) 



390 



undoubtedly some of these routes might be deleted under 
deregulation, it would be a mistake to conclude that under 
deregulation all, or even a substantial part, of them would 
receive no air service. 

First, the CAB's subsidy program (in theory nt least) 
covers all the losses the local service carriers incur in 
serving these routes. Deregulation does not necessarily 
imply elimination of the subsidy program. V With continued 
subsidy there is little reason to believe that carriers 
would not willingly serve the substantial majority of these 
markets. 2^/ 

Second, the combination of subsidy and regulation has 
tended to escalate the costs of the local service carriers. 
An example with which I am familiar illustrates. In 1973 
Texas International Airways, a local service carrier, 
applied to the CAB to delete service at College Station, 
Texas. Reason? Texas International was losing its market 
to a small College Station-based commuter, Davis Airlines. 
Both were offering service to Dallas and to Houston. Both 
charged $27 to Dallas, while Davis's $20 rate to Houston 
was a dollar less than Texas International's. But while 
Davis was making money at these rates, the Board was forced 
to conclude that Texas International was losing $41 per 
enplaned passenger. V In short while Davis's cost per 
passenger was in the neighborhood of $20-$27, Texas 
International's cost was in the neighborhood of $62-$68. 
Thus, under deregulation the local service carriers might 
well become more efficient and thus be able to serve some 
markets now receiving Federal support without the need of 
subsidy. 

Third, even if local service carriers abandoned 
these markets one must not overlook the outstanding success 
of the (unregulated) commuter airlines in providing service 
to small communities and serving low-density markets. 
According to the commuter airlines' trade association, 131 
commuter airlines listed schedules in the October 1, 1974 
issue of the Official Airline Guide . Of the 665 airports 

"y The regulatory reform proposals the Administration 
presently has under review do not alter the Board's subsidy 
program. 

2/ Indeed, if the subsidy program were improved, then 
many more routes might receive service for the same cost to 
the Federal Government. [See George C. Eads, The Local Service 
Airline Experiment (Washington: The Brookings Institution, 
1972).] 

3/ See CAB Order 73-4-49 (April 10, 1973). 



391 



- 9 - 

analyzed, 210 (31.6 percent) wera served exclusively by 
commuter airlines; 256 (38.5 percent) were served ex- 
clusively by CAB-certif icated airlines; and 199 (29.9 
percent) were served jointly by certificated and commuter 
airlines. In serving a total of 409 airports, the commuter 
airlines served over 1,530 city-pair markets. V These 
unregulated carriers have accomplished this record despite 
constraints on the size of aircraft they may fly.2_/ One 
must conclude that of local service markets that were 
abandoned under deregulation, most of them would be picked 
up by commuter carriers. 

The ATA also presents an analysis of flight segment 
load factors and concludes that raising system load 
factors from 55.7 percent to 60 percent would have required 
the elimination of 144,000 (or 37 percent of all) flights 
during the month of August 1973, and raising average load 
factors to 65 percent would have required the elimination 
of 226,000 flights (ATA study, Figure 11). 

This analysis is grossly misleading. First, it assumes 
that passengers on deleted (low-load factor) flights 
are lost entirely. In markets where flights are reduced 
(but not eliminated) , many of these passengers would travel 
on the remaining flights; although this would raise the 
system average load factor, the ATA analysis ignores the 
effect. Second, an increase in load factors would pre- 
sumably be accompanied by a fare reduction. Although waiting 
time would increase, the full cost of service (i.e., ticket 
price plus cost of waiting) would diminish. This would 
bring forth additional passengers and raise load factors — 
another important effect the ATA analysis ignores. Finally, 
as mentioned before, deregulation may be expected to increase 
carrier efficiency (lowering costs) so that even with the 
increased system average load factor the amount of 
scheduling might actually increase. 



1/ National Air Transportation Association, "AirTran 
News" (April 1975), p. 16. 

2/ CAB Part 298 regulations limit commuters to 
operating aircraft of not more than 30 passengers and not 
more than 7,500 pounds payload. (Exceptions to these 
limitations are occasionally granted on a case-by-case 
basis. ) 



392 



- 10 - 

The Issue of Cross-Subsidy 

Underpinning the ATA's conclusion that there would 
be significant abandonment of service is the assumption 
that the industry is presently characterized by a 
significant degree of cross-subsidy. Such an assumption 
is inappropriate. First, the work Douglas, I, and some 
others have done suggests that the extent of cross-subsidy 
presently existing is miniscule. For example, the major 
alleged source of cross-subsidy is in the structure of 
fares with respect to distance (i.e., long-haul flights 
subsidize short-haul flights) . However, taking into 
account the fact that directly subsidized markets are 
predominantly short-haul and the "feeder" characteristic 
of scheduling described above, average load factors show 
a monotonic decrease with respect to distance, consistent 
with the argument that carriers, through non-price competi- 
tion, configure scheduling so as to approximate break even, 
whatever the distance. Second, I understand from experts 
on CAB certificates that a large proportion of the routes 
served by trunk carriers which are alleged to be uneconomic 
are capable of being abandoned without CAB approval. It is 
unreasonable to assume that carrier management views their 
respective firms as eleemosynary institutions. If they do, 
then surely their stockholderE should be made aware of 
this fact! 

To the extent that cross-subsidy does obtain, on 
economic efficiency grounds it ought to be eliminated.!/ 
There is no such thing as a "free" lunch. If some un- 
economic services are being provided, this means that 
travelers on "profitable" routes are paying excessive 
fares. Besides the efficiency question, there is an 
equity problem. In the words of Richard Caves, "there is 
no reason why impoverished grandmothers flying from New 
York to Los Angeles should be the ones to subsidize well- 
off businessmen traveling between small towns. "2^/ Moreover, 
cross -subsidy is a hiaden subsidy. It would appear that 
from the standpoint of economic efficiency, equity, and 
rational decision making, the subsidy should be made explicit. 



1/ Importantly, the CAB has concluded that cross- 
subsidy is contrary to the public interest and has taken 
steps to eliminate whatever remains. See CAB Order 73-3-82 
(March 18, 1974) . 

2/ Richard E. Caves, Air Transport and Its Regulators ; 
An Industry Study (Cambridge: Harvard University Press, 
1962), p. 436. 



393 



- 11 - 

If it is in the national interest to provide service 

that otherwise would not be provided, then there should 

be a Federal direct subsidy. If the interest is "regional", 

then perhaps States should defray the costs; if the interest 

is purely local, then communities should provide the support. 

Conclusions 

While the ATA has made a bold attempt to identify 
the services that might be abandoned under deregulation, 
its analysis is grossly wide of the mark. First, 
simulation models, calibrated on industry performance 
under regulation, have limited usefulness in predicting 
outcomes under deregulation. The particular model utilized 
by the ATA, while reoutable, incorporates several assump- 
tions that may lead to an overstatement of uneconomic routes . 
Second, the ATA has misinterpreted what the model accomplishes. 
While the ATA claims the model simulates competition it 
does nothing of the sort; rather, it simulates a price- 
regulated monopolist. Third, to the degree the model's 
outcome can be interpreted, it suggests that, given the 
existing cost level, deregulation would lead to only a minor 
decrease in service; efficiency gains under deregulation 
might well result in more, rather than less, service. Fourth, 
while under deregulation some city pairs might lose service 
by the certificated (trunk and local service) carriers, 
there is good reason to believe that commuter-type (scheduled) 
airlines would provide replacement service. 

Finally, the argument that under deregulation city pairs 
would lose service assumes that there exists a considerable 
degree of cross-subsidy. Theory and evidonco does not 
support this view, and in any event the Board has enunciated 
a policy of purging it from the system. Cross-subsidy is 
economically inefficient, inequitable, and, given its 
hidden nature, tends to lead to inefficient political 
decision making. To the degree there is a public interest 
in providing services that otherwise would be abandoned, 
such support should come directly from the government. 



394 



EXECUTIVE OFFICE OF THE PRESIDENT 

COUNCIL ON WAGE AND PRICE STABILITY 

WASHINGTON, D.C. 20506 



May 1, 1975 



Honorable Edward M. Kennedy 
Chairman, Subconunittee on 

Administrative Practice 

eund Procedure 
Committee on Government Operations 
United States Senate 
Washington, D. C. 20510 

Dear Senator Kennedy: 

As requested by your letter of April 28, 
I have had my staff analyze the Air Transport Asso- 
ciation Study "Consequences of Deregulation of 
Scheduled Air Transport Industry." I am attaching 
two staff memos by George Eads which contain his 
reaction to the ATA analysis. As you will see, 
Mr. Eads concludes that the ATA simulation provides 
no useful information about the likely effects of 
"deregulation" since the system being simulated by 
the ATA bears no resemblance to the current U.S. air 
transport system. Specifically, the model simulates 
the behavior of monopolist; we currently have a system 
with multiple competitors. 

I hope this material will be of assistance 
to you. 

Sincerely, 



CuJL^(2su^ 



Albert Rees 
Director 



Enclosures 



395 



eXECUTIVE OFFICE OF TME PRESIDENT 

CXHiNCIL ON WAGE AND PRICE STABILITY 

WASHINGTON, D.C. 30S06 



April 29, 1975 



MEMORANDUM TO: Albert Rees, Director 

Council on Wage and Price Stability 

FROM: George Eads, Assistant Director ju.t- 

Government Operations and Research 

SUBJECT: Analysis of the ATA Simulation Model: 

"Consequences of Deregulation of the 
Scheduled Air Transport Industry" 

In drafting legislation to reform economic regu- 
lation of the airline industry, we in the Administration 
have always been aware that a balance must be struck between 
preserving those features of the current system that are 
necessary to protect the public interest while modifying 
those which do not. We welcome the input of the Air Trans- 
port Association. We believe that they provide a perspective 
that needs presenting. 

However, the current ATA effort titled "Consequences 
of Deregulation of the Scheduled Air Transport Industry" does 
nothing to aid us in settling these admittedly complex issues. 
It raises, as though they were novel, analytical issues that 
have long been settled as the result of extensive study, 
evidentiary hearing, and cross-examination. In particular, 
it raises the specter of wholesale route abandonment and 
flight curtailment as a result of the elimination of "cross- 
subsidy," a concept that the Civil Aeronautics Board itself 
discredited as a workable feature of the current air trans- 
port system in its decision in Phase 9 of the Domestic 
Passenger Fare Investigation . ATA resurrects this argument 
m the context of an extremely sophisticated simulation of 
what purports to be the current air transport network. 
However, as I will explain, the system being simulated is 
not the current air transport system but one which the 
Congress discarded as an option when it passed the Civil 
Aeronautics Act of 1938. 

The system being simulated is one in which there 
is a single monopoly airline, subject to price regulation 
by the Civil Aeronautics Board, free to pick and choose 
which routes to enter and exit, and totally protected from 



396 



- 2 



entr>' by any other competitor. The model indicates that 
this monopolist, if free to maximize his dollar profits 
at this fixed fare level, will do so by dropping certain 
routes entirely and by cutting back flights on other 
routes, thereby raising his average load factor substantially. 
The profits that this monopolist could earn under such a 
system would indeed be enormous — approximately $2 billion 
during the simulation year (1973) . 

This result is by no means a novel one. The 
analytical proof was demonstrated in an article by 
Professor White of Princeton University titled "Quality 
Variation When Prices Are Regulated" ( Bell Journal , 
Autumn 1972). In a paper delivered in the Fall of 1972 
at a Brookings Conference, I presented evidence to confirm 
the proposition that load factors in monopoly markets are 
indeed higher than load factors in competitive markets 
provided prices are regulated but scheduling is not . The 
ATA simulation provides an indication of what the magnitude 
of such a load factor increase might be in such an idealized 
system and how profi^^able the monopolist would find this 
state of affairs. It conclusively demonstrates that such 
a scheme of regulation — monopoly with prices regulated, 
entry (save for the monopolist) blockaded, and exit by the 
monopolist totally free — is undesirable public policy. 

The simulation also shows the potential magnitude 
of the profits that might be available to support cross- 
subsidization by such a monopolist — approximately $1.6 
billion — in the event that the CAB could indeed force 
him to serve routes that the model indicates are in some 
sense unprofitable. (I would note that the apparent 
unprof itability of many routes is an artifact of the 
simulation. More on this below.) However, as the CAB 
found in the recent New England Service Investigation , 
neither the Board nor any other regulatory agency can 
compel an unwilling carrier to provide adequate, responsive, 
efficient, money-losing service where the carrier can 
effectively lower its costs by degrading the quality of 
the service (See Board Order 74-7-70, pp. 10-11). The 
entire history of the local service airline subsidy program 
and the experience of rail passenger service in this country 
over the last half-century provides ample additional evidence 
of the validity of this finding. 



397 



This is what the simulation is. What is it not? 
Most specifically, it is not a simulation of the airline 
system we have in the United States at this time. Indeed, 
the closest domestic analog would appear to be the Bell 
System. The FCC, therefore, might find the model useful 
in its struggle to understand the consequences of allowing 
competition in this system. However, this Nation's airline 
system is not a monopoly, but is composed of many carriers. 
The CAB regulates maximum and minimum fares, controls 
entry into new city-pair markets and exit from these city- 
pair markets. With regard to entry and exit, however, 
the cab's effective authority over nonstop service in 
city-pair markets is quite limited. Carriers currently 
have — and exercise -- a great deal of freedom to enter 
or exit from a large variety of markets under the broad 
authority conferred upon them by their operating certifi- 
cates. Furthermore, since the Board cannot control the 
number of flights a carrier offers in a particular city- 
pair market, carriers are free to reduce schedules sub- 
stantially from their current levels without Board 
approval. The fact that they currently operate what, 
according to the model, are vast numbers of unprofitable 
flights and routes — not because of CAB compulsion but 
because they find it is in their best economic interest 
to do so — only casts further doubt upon the credibility 
of the ATA results. 

We have it on the word of the CAB (see its 
Phase 9 opinion in the Domestic Passenger Fare Investigation ) 
that this scheduling competition, given fixed price, tends 
substantially to eliminate excess profits on competitive 
routes by driving load factors down to the breakeven level 
(where breakeven is defined to include a normal rate of 
return). Certain major carriers -- principally, TWA, 
American, and United -- have argued that this scheduling 
competition is so fierce that it does more than eliminate 
excess profits on these competitive routes. According to 
these carriers, such practices produce actual losses 
absent capacity agreements which would control this level 
of competition. A CAB Administrative Law Judge recently 
found this latter contention to be contrary to fact in 
ruling against such agreements. (See Initial Decision 
of Administrative Law Judge E. Robert Seaver, Capacity 
Reduction Agreements Case , Docket 22908, served November 18, 
1974.) 



398 



4 - 



The crucial point to understand is that if 
scheduling competition tends sharply to limit the level 
of excess profits that a competitive airline system 
generates, the ability of this system to support a large 
amount of unprofitable service is substantially impaired. 
Thus, the ability of the airline industry to operate in 
a competitive environment — competitive as to schedules, 
at least — while avoiding the staggering level of losses 
that the ATA simulation predicts should today be occurring 
demonstrates conclusively that the simulation is faulty 
both as a description of current reality and as a predic- 
tion of future behavior. 

What of the apparently "unprofitable" routes 
and flights that the model finds? I would suggest that, 
given the way the current domestic air transport system 
actually operates, these are more likely artifacts of the 
simulation than reflections of reality. In performing 
any simulation of this sort, the designer of the model 
must make many simplifying assumptions. In the real world, 
many costs are common to more than one flight or more than 
one route, yet the simulation demands that an artificial 
allocation be made. Furthermore, certain routes generate 
traffic for the system as a whole, yet no means exists to 
properly allocate the revenues produced by this traffic 
to these routes. Thus, certain routes appear to be more 
profitable than they are in reality; others appear to be 
losing money when they, in fact, are not. This is not 
the fault of the simulation — arbitrary assumptions are 
necessary if the simulation is to be made to work. But 
that is why we call the exercise a "simulation." A 
knowledgeable airline scheduler familiar with the opera- 
tional characteristics of his particular system would 
recognize these anomolies and disregard them. A person 
unfamiliar with the system — or a computer mechanically 
adding up "profits" and "losses" — will not. That is 
why in the real world, airline scheduling is performed not 
by computers employing simulation models, but by skilled 
and experienced men who use such tools as computers and 
simulation models merely as initial inputs into the process. 

This is not to say that all the loss markets 
and flights indicated by the ATA simulation are, in reality, 
profitable. Under a less regulated system where both entry 
and exit were freer, certain flights and certain cities 
would be dropped by the carriers currently providing them . 
After all, the current route system is a somewhat crazy 
patchwork that originated in the days when the DC-3 was 



399 



the Nation's largest and most efficient airliner. This 
is not to say, however, that all these cities that would 
be dropped would lose all airline service. Certain nonstop 
flights would be downgraded to one-stop. Certain routes 
would fit better into the route systems of carriers other 
than those currently providing service over them. Certain 
others would be picked up by commuter carriers whose 
specialized operations and smaller aircraft allow them 
to tailor service closely to the needs of the small 
communities . 

But when all this had happened, some city-pairs 
would indeed have service reduced and others might well 
lose all service. However, this would not occur because 
of the elimination of cross-subsidy — cross-subsidy does 
not now exist to any substantial degree — but would 
result from a bidding down of fares. As fares fell, the 
breakeven load factors would increase. As the CAB found 
in Phase 6B of the Domestic Passenger Fare Investigation , 
this vtpuld induce carriers to reduce the number of flights 
they offer, thereby raising actual load factors. In some 
cases, this new higher breakeven factor might be unsustain- 
ahly high, rendering nonstop service on that particular 
segment impossible. In this latter case, if it were 
determined that the public interest demanded a continuation 
of service, public subsidies should be voted. These subsidies 
would, however, need to be nowhere near the one billion dollars 
per year level mentioned by the ATA document. 



400 



eXECUTIVE OFFICE OF THE PRESIDENT 

COUNCIL ON WAGE AND PRICE STABILITY 

WASHINGTON. D.C. 20506 



May 1, 1975 



MEMORANDUM FOR: Albert Rees, Director, Council on 
Wage sind Price Stability 

FROM: George Eads, Assistant Director px.- 

Government Operations and Research ' 

SUBJECT: Further Analysis of the ATA Simulation 

Model: "Consequences of Regulation of 
Scheduled Air Transport Industry" 



Since sending you my memorandum of April 29, I 
have continued to analyze the ATA simulation results in 
more detail. In particular, I have had my staff focus on 
the results as they apply to one state — Arizona. I made 
this choice because, having grown up in Arizona, I am quite 
familiar with the pattern of air service that exists there. 

Figure 1 is taken frcsn the ATA report and shows 
the routes which would "lose" service under "deregulation." 
Table 1 shows the reduction in service predicted by the 
model on those Arizona routes that would be retained. 

The first thing that should be noted about 
Figure 1 is that it includes (as do all of the ATA state 
maps) the subsidized services currently provided by the 
regional (i..e. , "local service") carriers. The implica- 
tion is conveyed that these services would be lost under 
■deregulation." This is clearly a false issue calculated 
to raise scare headlines. We have made it very clear that 
amy Administration bill will not propose an end to the 
current subsidy program. This is not to say that con- 
siderable improvement could not be made in the program. 
Both the CAB (in its study Service To S^.all Communities ) 
and I (in my Brookings book The Local Service Airline 
Experiment ) have shown how better service could be provided 
at lower cost to the Government by major changes in the 
way the current subsidy program is run. The relevant 
point, however, is that none of this service will be in 
any danger from "deregulation." 



401 




51-146 O - 76 - pt. 1 



402 



Ubie I 



COMPARISON OF NON-STOP SCHEDULED SERVICES 
1973 Actual vs. Simulated for Profit Maximization 



Fli^ta Per Day - Both Directions 



NOTE: This comparison does not include city- pairs in which profit 
maximization would result in no service, and it does not 
indicate the public service consequences of elimination of 
adequate frequencies to meet peak demand. 



Average Daily Services Ar.signed 
Non-Stop at 

Services Maximum Earnings 

(1973 Actual) (Simulation) 



ARIZONA 
Between: 
Fboenix 



and: 

- Albuquerque, N. M. 4 

- AmarUlo, Texas 2 

- Chicago, m. 18 
. Dallas. Texas 17 

- Denver. Colo. 18 

- El Paso, Texas 4 

- Houston. Texas 1 

- Kansas City, Mo. 3 

- Las Vegas. Nev, 14 

- Loa Angeles, Calif, 29 
- - Minneapolis/St. Paul, Minn. 2 

- New York, N.Y. 6 

- Oklahoma City, Okla. 4 

- Portland. Ore. 2 

- St. Louis, Mo. 7 

- San Antonio, Texas 2 

- San Francisco. Calif. 9 

- Washington. D.C. 4 



and: 




- Chicago, m. 


9 


- Dallas. Texas 


8 


. . - Loa Angeles. Calif. 


10 


- San Francisco. Calif. 


4 



403 



This leaves seven routes that are identified 
as "unprofitable." These are Phoenix-Palm Springs, 
Phoenix-San Diego, Phoenix-Tucson, Tucson-El Paso, 
Tucson-Kansas City, Tucson-Palm Springs, and Tucson- 
San Diego. 

I have directed Roger Mallet to examine the 
pattern of air service that these routes received 
during July 1973, the mid-point of the year the ATA 
chose to simulate. Appendix A lists all flights in 
both directions together with the flight itineraries. 

As you can see, with only one exception (American 
Airlines Flight 374 from Tucson to San Diego) , all 
flights offered during July 1973 were segments of 
longer flights. They are thus, subject to the cost and 
revenue allocation problems I mentioned in my memo of 
April 29. This means that any indication by the model 
of "unprof itability" needs to be examined very carefully. 

Let us focus particularly on the Tucson-Phoenix 
segment. During July 1973 there were 18 flights per day 
between Phoenix and Tucson and 17 flights per day between 
Tucson and Phoenix. (These totals do not include four 
daily nonstop flights in each direction by an unsub- 
sidized commuter carrier which has total freedom to 
enter and exit the market at will.) All of those 35 
daily flights were offered as segments of longer flights. 
In many cases, these flights clearly were "feed" flights. 
For example, American Airlines Flight 177, Boston- 
New York/JFK-Phoenix-Tucson is clearly operated as a 
means of providing single-plane service to both cities 
from the East Coast. It is no more run by American 
solely because of its Phoenix-Tucson segment than it 
is because of its Boston-New York segment (which I am 
certain is "unprofitable" judged by itself) . 

This example reflects the fact that airlines 
do not schedule flights on a city-pair basis. They are 
scheduled on a total flight basis. That is, what the 
scheduler tries to achieve is a situation in which the 
revenues attributable to a particular flight equal or 
exceed the costs attributable to that flight. In 
deciding whether or not to include a particular segment 
(e.g., Tucson-El Paso segment on American's Flight 116 
wTtn an itinerary consisting of San Francisco-Phoenix- 
Tucson-El Paso-Chicago-Newark) , the scheduler decides 



404 



- 3 



what additional traffic he can pick up by including 
the segment (he doesn't particularly care whether this 
is local Tucson-El Paso traffic or whether it travels 
beyond El Paso — it is the revenue he is concerned 
about) and what additional costs American will incur 
by serving the segment. This additional cost may or 
may not be related to what the CAB terms "direct 
operating expense." "Direct operating expense" is 
merely an accounting convention. If attributable 
revenues exceed attributable costs, the segment is 
included. If not, it is deleted. 

Deleting such a segment on a given flight 
would only require CAB approval if it represented the 
carrier's only service at either of the two cities 
under authority of a given "route segment." It is 
important to note that CAB approval often is not 
required either to add the first nonstop or delete the 
last nonstop in a given city-pair market. For example, 
nothing in American Airlines' certificate currently 
compels it to offer nonstop service in any of the 
Arizona city-pairs mentioned in the ATA simulation. 
Indeed, during July 1973, American eliminated, without 
seeking CAB approval, the Palm Springs segments from 
Flights 159, 221, and 622, thus ending nonstop service 
by American between Palm Springs, on the one hand, and 
Phoenix and Tucson, on the other. 

To see how widespread this carrier authority to 
add and delete service currently is, I had Mike Roach 
check the certificates of the carriers serving the Arizona 
markets. He informs me that, perhaps with the single ex- 
ception of Frontier's Phoenix-Tucson service, the carriers 
involved are currently free to terminate service over all 
the indicated segments. In other words, American, under 
its current certificate, has no obligation to provide 
service in any of the six city-pairs where it currently 
is certificated (it does not hold a certificate allowing 
it to fly between Kansas City and Tucson) . 

This brings me to my final point — service 
reductions on segments that the ATA model predicts would 
be retained. As you can see, in many cases, the hypo- 
thetical reductions indeed would be massive. Chicago- 
Phoenix service would be cut from 18 to 8 flights per 
day. Again it is vital to be clear about what is and 
is not being simulated by the ATA model. As I indicated 



405 



4 - 



in my April 29 memo, the ATA model simulates the 
response of a monopolist. I am not surprised that a 
monopolist, if free to drop all flights he didn't 
wish to offer, and protected from entry by other car- 
riers, would choose substantially to curtail service. 
He might even drop the amount of service that the ATA 
model indicates. 

However, the current air transport system is 
not a monopoly. It is a competitive system where 
carriers face controlled prices, are free to determine 
the amount of service they wish to provide at these 
controlled prices, and are even free to exit from many 
city-pairs without explicit permission of the CAB if 
they find their operations unprofitable. The fact 
that they currently choose to operate large numbers 
of flights and routes which the simulation indicates 
are "unprofitable" indicates not that there is cross- 
subsidization in the system, but that the simulation 
is faulty in the way it determines whether a particular 
route or flight if "profitable" or "unprofitable." 



406 



^-t^ 



tai=^^ 




— I — • — ' r— e — I . ' X \ \ . 1 < -^ 



r 



r^f^^^ 



'^?s¥^ 



Is-^ 



^3 













407 




408 




409 







Mtiiii 



i?J |5i N 




410 



MEMORANDUM 



To: Honorable Edward M. Kennedy, Chairman 

Subcommittee on Administrative Practice and Procedure 
United States Senate 

From: Dr. John W. Drake, Professor of Air Transportation 
School of Aeronautics and Astronautics 
Purdue University 
West Lafayette, Indiana 47907 

Subject: Comments re: A.T.A. study of Consequences of Deregulation 
of the Scheduled Air Transport Industry 

Date: 15 May 1975 



Summary 

The ATA model misapplies costs In such a way as to 
make more segments appear unprofitable. 

The ATA model probably understates short and thinly 
travelled segment yields, thus making more appear 
unprofitable. 

The ATA model leaves out all aircraft less expen- 
sive to operate than a DC-9-10, thus making more 
segments appear unprofitable. 

The $50 billion spent on the Interstate system has 
Indeed succeeded in providing superior alternative 
service over many of the segments enumerated. This 
should not be viewed as a catastrophe. 

The model used is very questionable for this appli - 
cation , for both reasons of oversimpl iflcation and 
for more fundamental reasons of methodology. 



DRAKE • TRAN«POnTATION CONaULTANT 



411 



Introductio n 

The ATA study referred to concern*, the application of a model to the 
question of profitability of Individual segments of the airline route 
network of the United States. There are a host of questions one may a'.k 
about any such study, many of which get Involved with fine points which 
do not. In fact, matter too much. The Important thing therefore Is to 
try to address the Important questions. These seern to me to be (more or 
less 1n order) : 

• Does the simulation, as run, use reasonably good 
cost data? 

• Does the simulation, a', run, use reasonably good 
revenue data? 

• May the simulation method used be expected to 
t1ve the answers It proports to give (I.e., 
reasonably credible answers re. probable route 
abandonments)? 

My belief concerning these questions Is, briefly: "No," "Perhaps," 

and "No." 

Analysis 

Basically the simulation steps flights into the network on a segment 
by segment basis and computes proported costs of flying and revenue from 
the services offered. The difference, profit i is used to determine 
whether to add a flight and where te add It, and thus what and how 
many routes are candidates for abandonment. Being a difference between 
two "i^r^ nearly equal numbers the profit criterion is much more sensitive 
to errors in either the cost or revenue estimates than they are them- 
selves. Thus the distinct Interest 1n whether or not the cost or revenue 

JOHN W. O^^JUM. • TnAr^aPOKTATIOM COr4SUl.TA^4r 



412 



assumptions used are to be relied upon, since either overly high costs 
or overly low revenues will quickly turn routes from profit to loss. 

Costs 

If all costs of operating were proportional to the number of 
passengers carried or flights flown, airline route analysis would be 
a vastly simplified matter. However, as in many businesses, costs are 
very much a mixture of fixed and variable. Furthermore what is fixed in 
the short run may, sometimes, be variable in the long run. In addition, 
fixed costs are fixed on a number of levels themselves.* The ATA in its 



*J.E.D. Williams in his excellent book "The Operation of Airliners" 
(Hutchinson Scientific & Technical , London, 1964) divides costs as follows 
in his Chapter 12, "The Anatomy of Operational Costs": 

Operator's Overheads, A. Those costs which would be incurred 
whether the particular fleet under discussion existed or not. 

Fleet Overheads, B . The costs necessarily incurred by having 
the particular fleet, whatever its size and whether used or not. 

Aircraft Fixed Costs, C . The marginal cost of having one 
extra aircraft "in the fleet whether used or not. 

Station Fixed Costs, D . The cost of maintaining the basic 
establishment of personnel and facility at a station. 

Sector Costs, E . Those marginal costs of operating one flight 
on a sector which are independent of how the flight is operated. 

Hourly Costs, F . Those marginal costs of flying the aircraft 
for one hour which are independent of how the aircraft is flown. 
Hourly costs per flight are computed on the basis of block time, 
i.e., from the start of taxiing out to the end of taxiing in. 

Passenger-hour Costs, G . The costs of providing a passenger 
with service for one hour not otherwise incurred. For some purposes 
it is convenient to consider passenger-hour costs as a charge on 
revenue. 

Fuel and Oil , H . The cost of fuel and oil loaded at the 
refueling point. Fuel is bought by the gallon and metered by the 
pound, and produced thrust by the B.T.U. For many purposes (but 
not, for example, selection of minimum-cost cruise) fuel and oil 
costs may be considered a part of the hourly variable cost F. 

(continued) 



JOHN W. DRAKE • TRANSPORTATION CONSULTANT 



413 



study treated costs in a very unrealistic manner. As explained on page 
4, "marginal" costs were used to select the flight to be added but then 

"after each flight addition is made total operating costs are 

adjusted to include the additional system costs* [to produce fully allo- 
cated costs]." This prorating of fixed costs of all kinds over the 
variables of all kinds on a percentage basis will permit the model to 
make incremental decisions in a way which is quite removed from reality. 
For example, it may in effect by "paying for" 10% or 129% of a DC-9 
maintenance base when as a matter of fact for many of the items which 
make up such a base you simply have one or you don't, thus producing a 
large fixed and lower variable cost. Rather than being added prorata, 
major portions of the fixed costs whould be treated by the model simply 
as they are: fixed, by system, fleet, station, etc. This leads to very 
much lower marginal costs and a sort of "steady by jerks" behavior of 



Charges on Revenue . Certain costs such as the agent's cormiis- 
sion are necessarily incurred by the act of selling a ticket. For 
the purposes of aircraft operational studies these can conveniently 
be regarded as a charge on revenue. Reference in this book is 
always to net revenue, that is, the residual revenue after deduction 
of items under this heading. 

The advantage of this classification is that if values are 
assigned to A, B, C, D, E, F, G and H it is possible to see 
precisely how changes in the operation, such as fleet-size, schedule, 
route-structure, load factor, operating technique, etc., affect the 
economy of operation. The snag is the difficulty of assigning 
costs under these headings, but this analysis must nevertheless be 
undertaken if the operator is to ensure that the operating posture 
is at maximum profitability. 

*fixed costs 

i.e., a big "jerk" when one goes to two DC-9 maintenance bases, opens a 
new station, or buys a new type of equipment. 



JOHN W. DRAKE • TRANSPORTATION CONSULTANT 



414 



a substantial fixed cost and immediately pour flights into the most 
profitable routes. However, once that were done it would \ye created 
much of its infrastructure and would find it profitable to keep adding 
flights on an incremental basis in a manner very different than the way 
the model used in the ATA study does in its phase 1.* It would add more 
until it came to a step in the fixed costs and then hesitate until 
traffic pressure built up. A good many of the "more" would, it seems to 
me, be on the routes the ATA suggests are threatened, albeit mostly 
between cities each of which already had a station (and thus many fixed 
costs). 

If one were simulating competitive practice it would mean that, in 
the above example, the stations would need to be of the same carrier 
(although interchange flights could be used as well as other techniques). 
The most important thing however is that in a competitive environment 
everyone's fixed cost steps are not identical in time and place. One 
carrier may be reluctant to add a flight of a certain kind but another 
carrier which has just bought the right aircraft type may well be anxious 
to do so. 

In sum, I believe the treatment of costs in the first phase of the 
model used (the fully allocated cost phase) greatly distorts the models 
process of adding flights,^ and does so because of the model's demand/ 
frequency assumption, in the direction of concentrating flights in the 



♦i.e., as shown in Figure 2 page 4 of the ATA study and expanded upon in 
the Lockheed brochure CTR 2007, Lockheed Airline System Simulation , 
revised May 1970, charts 884-09229 through 886-09229. 

"•"ibid., Lockheed chart 889-05180. 

*^^One may ask why this was done. I believe there are a number of reasons 

JOHN W. DRAKE • TRANSPORTATION CONSULTANT 



415 



major markets.* 

Revenues 

Revenues are less clear. Individual segment-by-segment coach fares 
were used. They were then reduced by a constant percentage to reflect 
recent system-wide average discount experience. Thus short haul flights 
and lightly travelled segments were discounted to the same degree as long 
haul and dense segments. I do not have data immediately at hand from 
which to analyze discounts including the effect of the fare pro-rate on 
joint fare routings by segment type; however, a few observations are 
obvious. 

1. By Trunk Carrier, in 1969, there is a recognizable 
tendency toward less discounting in shorter hauls based 

on comparing each carrier's % Full Fare revenue from the DPFI 
Phase 5 Decision, Appendix B, with the coach lengths of 
haul , Appendix L. 

2. Many of the present day (1975) discount fares do not 
apply on thin routes (e.g., no TGC from IND->SEA) nor 
on short routes (e.g., no Bicentennial below 750 miles, 

no demand scheduling below very long haul). 



but in this case it is most probably a combination of the background 
of the modelers (technical more than economic) and the state of the art 
when the model was begun (ca. 1959). For further discussion of the 
problems associated with models not doing what decision makers want 
models to do, see my book: The Administration of Transportation Model- 
ing Projects , D. C. Heath, Lexington, Mass. , 1973. 

*I do not wish to suggest that I propose the modifications I have sug- 
gested as all that is needed to perfect the.model under discussion. I 
recognize full well, for example, that if my modifications were made 
one could get vastly different answers if you ran the model from zero 
frequencies upwards and from many frequencies downwards. It would be 
more realistic, however, as this is exactly what happens in real life. 
In truth, I favor a mathematical programming approach using origin and 
destination data rather than segment flow data. Such a model would 
break the perpetuation of the present route structure just because it 
is the present route structure. Such a mathematical programming 
approach is now just within the state of the art, I believe. See the 
discussion later in this memo. 



JOHN W. DRAKE . TRANSPORTATION CONSULTANT 



416 



Thus, given a choice, I would have to guess that the ATA underesti- 
mated the "endangered" segment actual gields. The prorate situation is 
more of an unknown, however, so to be certain one must have the real 
data. 

Aircraft Types 

Clearly another way in which the ATA study suggested such a large 
number of endangered segments was by its choice of equipment. The list 
on page 3 is long enough but not diverse enough: 

ATA Possible 

B-747 * B-747 

L-lOll/DC-10 * L-lOll/DC-10 

DC-8-61 * DC-8-61 

B-707-300B/DC-8 B-707-300B/DC-8-50 

B-727-200 * B-727-200 

DC-9-30/B-737 * DC-9-30/B-737 

DC-9-10 DC-9-10 (?) 

* Convair 580 

* FH-227B 

Allegheny Conversion of 
Nord 262 (Mohawk 298) 

* DHC-7 
Short SC-30 

* Fairchild/Schwearingen 
Metroliner 

Clearly not all need to be included--perhaps only the asterisked 

ones. Running time would go up slightly but I dare say some endangered 

segments would suddenly survive, which leads "VoiU!" to the third level 

carriers and their willingness to step in. To be sure, as the ATA says, 

Lafayette, Indiana, (where I write this)-Chicago service by Allegheny is 



TRANSPORTATION CONeULTANT 



417 



endangered. It's so endangered it's been gone for well over a year. 
But we have eight (weekday) non-stops to Chicago on fast pressurized 
Air Wisconsin planes. Who is suffering? 

Interstate Highways 

One must also not lose sight of another factor: the interstate 
highway system. I will use Indiana as an example since I now reside 
there and travel extensively. I reproduce the map from the ATA study 
and the same map with the interstate highways added. Having now spent 
something approaching $50,000,000,000 to build a vast system of inter- 
state highways, is it any wonder that Indianapolis - Fort Wayne service 
might be threatened, and so should a lot of the others? We should not 
cry if we sometimes succeed in transportation! This does point to the 
most important of all aspects of this whole deregulation questions, 
however, which is simply that of "What is our national transportation 
policy?" As of now we don't have one. We need one. Otherwise we are 
in the silly situation of crying over things that either won't happen or 
that we've spent billions trying to get to happen.* With no integrated 
intermodal transportation policy, we don't know when we are well off! 

Model Methodology 

One must still address the question of whether the model used is 
fundamentally appropriate to the problem. That is, if it were merely 
improved and had everybody's nit-picking objections taken care of and 
computer time were no object, could it do the desired job in this 



*0r in the case of the trains, happened when we didn't want them to, 
because of disjointed policies toward air, rail, water and highway 
transportation. 



JOHN W. DRAKE • TRANSPORTATION CONSULTANT 



51-146 O - 76 - pt. 1 - 28 



418 




Map of 
INDIANA 



ATA Study Map of Indiana 



JOHN W. ORAKB 



. TRANSPORTATION CONSULTANT 



419 




Map of 
INDIANA 



ATA Study Map of Indiana with the Interstate Highways Added 



JOHN W. ORAKK • TWANi^OWTATION CONSUI-TANT 



420 



11 



instance? I have hinted at the answer in tny earlier footnote (see page 
7 at the end of the costs section). Let me reiterate and expand 
slightly. 

1. If the model would realistically simulate business 
behavior by incrementally adding flights (using good 
cost steps, si i pes, etc., etc., etc.), it wouldn't 
reproduce its results when run backwards, taking away 
flights from a vast superfluity, but both answers would 
be equally valid! They would simply highlight a major 
policy question: Should the government still view air 
transport as an Infant industry needing a boost, or 
not? 

2. If one really wants to see what segments of a route 
network the U. S. ought to want to have in the interest 
of maximizing its efficient use of resources, use of 
the existing segment flow data ("service segment data" 
from the ER 586' s) is the wrong way to go. A mathe- 
matical programming approach using origin and destina- 
tion data, though not without problems, is a better 
way. Ideally it should be a mixed-integer program but, 
depending upon the time horizon, that is not as essential 
as it first appears. Such analyses are now within our 
grasp and should be done. 



JOHN W. DRAKK • TRANSPOfrTATION CONSULTANT 



421 



UNIVERSITY OF CM.lKOIiM A, lU.Kkl ,1 .i:V 



" iil 



June A, 1975 



Senator Edward M. Kennedy 
Chairman, Subcommittee on 

Administrative Practice and Procedure 
United States Senate 
Washington, D.C. 20510 

Dear Senator Kennedy: 

Please forgive my long but unavoidable delay in responding to your letter of 
April 29, requesting an evaluation of the April 25 letter of Dr. George James, 
and on the Air Transport Association report used to back up the main points in 
that letter. The previous letters of other economists have covered most of the 
Important weaknesses of the James letter and the ATA report, so I shall limit 
myself to a few additional comments . 

As previous comments on the ATA model have Indicated, Its primary weakness is 
that it assumes that in the absence of regulation, the carriers in any given 
market would behave as a single monopolist, at least'/'the service quality 
offered. Thus, the report argues that without regulation, flights on currently 
unprofitable routes would be abandoned, and flights on profitable routes would 
be cut back to achieve maximum profits. 

This conclusion is not only based on faulty analysis (as previous comments have 
already pointed out), but also, the study starts off with what seems to me to 
be a totally mistaken assumption about how the CAB currently affects airline 
behavior. The study implicitly assumes that there is something which the CAB 
is doing, through exercise of Its legal powers, to prevent flight cutbacks on 
main routes, so as to prevent load factors from rising to a profit-maximizing 
level (mentioned to be 81 per cent). And yet there is nothing which the CAB 
has done to prevent "profit-maximizing cutbacks" in flights to such a load fac- 
tor. It does not have to, because the airlines compete among themselves in 
service quality, driving load factors down until profits reach a normal level. 
Why this would change in the absence of CAB regulation is never stated, either 
by Dr. James or by the report (antitrust laws would of course prevent collusion 
in restraint of trade on the part of the airlines in the absence of regulation. 
Just as they do now). It would thus appear that the ATA study is vesting the 
CAB with powers which it does not have, and which it clearly does not need. As 
a result, the study is irrelevant to the question at hand. 

The second point which I want to make regards the empirical validity of the 
results of the ATA study. It asserts that if money-losing routes were abandoned. 



422 



372 routes would lose Crunk service. Professor Peltzman, In his excellent 
comment, points out that of these, there are seven Texas and California routes 
which currently receive service from non-subsidized intrastate carriers at 
below-CAB fares. 

I count even more such routes than Professor Peltzman: in addition to the 
ones he mentions ar§ Fresno-Los Angeles, Fresno-San Francisco, Stockton- 
San Francisco, and Los Angeles-Palm Springs. Thus, all told, eleven of the 
routes which the ATA report predicts would lose service in the absence of regu- 
lation are in fact being served by non-subsidized carriers at below-CAB fares . 

Third, as any reference to the Official Airline Guide will Indicate, commuter 
carriers have served profitably many routes of too low a density for even the 
subsidized local service carriers. Nearly all routes currently served by the 
trunks are of higher density than that. Thus, any town which lost trunk air 
service would be almost certain of being served by a nonsubsldized commuter 
carrier, and many cities would stand a good chance of being served by a larger 
carrier such as PSA or Southwest Airlines. 

I am most inclined, however, not to believe that these routes are unprofitable 
in the first place. As Dr. Eads has commented in his letter of May 1, the 
trunk carriers are free to abandon service on most of these "unprofitable" 
routes, and the fact that they have not done so indicates either that the 
routes are profitable, or that the managements of the airlines represented by 
the ATA are incompetent, in failing to maximize profits given the existing 
regulatory structure. I believe that the routes are profitable. To the extent, 
then, that the CAB is not currently requiring the airlines to provide as much 
service as they do on these "unprofitable" routes, it is difficult to see how 
elimination of CAB regulation would have any Impact whatsoever on service 
provided. Again, the ATA report is basically irrelevant as regards the effects 
of CAB regulations. 

To conclude, I think that the ATA study is an interesting (if highly Inaccurate) 
exercise to determine what would happen if, by regulatory fiat, one carrier 
were granted a complete monopoly on every route in the country. But it has 
little if anything at all to do with the potential effects of deregulation of 
the trunk airline industry in the United States. 

Sincerely 



Theodore E. Keeler 

Assistant Professor of Economics 



TEK:jst 



423 



UNIVERSITY OF CHICAGO 

GRADUATE SCHOOL OF BUSINESS 

5836 GREENWOOD AVENUE • CHICAGO, ILLINOIS 60637 

May 5, 1975 



Senator Edward M. Kennedy 

Chairman 

U. S. Senate Subcommittee on Administrative 

Practice and Procedxire 
Senate Office Building 
Washington, D.C. 20510 

Dear Senator Kennedy: 

I am pleased to reply to your request of April 29 for a review of the 
Air Transport Association's study on the possible consequences of 
deregulation of the airline industry. 

In my opinion, the weaknesses of this study are so glaring that the 
study simply cannot support the case the ATA wants to make. In fact, 
if it does anything, it strengthens the case for deregulation. 

The heart of the study is a list of 372 nonstop routes which "are prime 
candidates for abandonment under deregulation." One indicator of the 
weakness of the study is its inclusion among these 372 routes of seven 
Texas and California routes already being served by non-CAB- regulated 
carriers at below-regulated rates. These are: 

San Francisco-Sacramento 
San Francisco-San Diego 
Los Angeles- San Diego 

Dallas-Houston 
Harlingen-Hous ton 
San Antonio-Houston 
San Antonio-Dallas. 

Clearly, if unregulated service is already being supplied to these markets 
it is absurd to claim that they will be left without service under deregu- 
lation. Since the entry of unregulated carriers has, in virtually all these 
markets, led to improved service, a legitimate question may be raised against 
the ATA's claim that extending deregulation to the remaining 365 markets will 
lead to the cessation of (nonstop) service to them. Indeed, if one checks 
this list, numerous instances will be found where nonstop service is in fact 
being provided by lightly regulated commuter air carriers. I comment on this 
subsequently. 

I believe that the major weakness of the study, and perhaps the primary 
source of anomalies like those I have Just cited, lies in its methodology. 
This methodology is not described clearly, but it appears to rely heavily 



424 



on estimates of the profit or loss engendered by the addition of nonstop 
flights to specified city pairs. The defect of this methodology is im- 
plicitly recognized in the April 25, 1975 covering letter to you from 
George "w. James, ATA Senior Vice-President—Economics and Finance, in 
which he states that "it is recognized that some [of the listed "unprof- 
itable routes"] might be held [under deregulation] for such reasons as 
feeding heavier traveled routes or aircraft positioning." This appears 
to recognize that a nonstop route can be profitable even if the traffic 
generated on that route alone could not support nonstop service. For 
example, there may be 30 passengers between City 1 and City 3, and another 
30 between intermediate City 2 and City 3- These may separately be insuf- 
ficient to warrant 1-3 and 2-3 nonstop service, but may make a 1-3 flight 
with a stop at 2 profitable. Consequently, the total market involved can 
support what will show up as two nonstop flights (1-2 and 2-3). Thus, 
when a particular segment of a longer route cannot support nonstop service 
by itself, it is invalid to infer that this segment will be abandoned. 

The vast majority of the "prime candidates for abandonment under deregula- 
tion" appear to have precisely this characteristic; they are primarily 
segments of longer routes. The extent to which this is the case may^be 
indicated by an examination I made of every tenth city pair on the list of 
372 in Exhibit B of the ATA study. Of the 37 pairs I examined, 7 m fact 
had no nonstop service listed in the April 15, 1975- edition of the Official 
Airli ne Guide (numbers ll^O, 210, 280, 310, 320, 350, 360 on the ATA list). 
Of the remaining 30, there was no case in which more than half of the non- 
stop flights were operated exclusively between the two cities. In one case, 
(number 90), half the nonstop flights did originate in one city and terminate 
in the other. In each of the remaining 29, the majority, and in most cases 
virtualiy all, of the nonstop flights were segments of longer routes. It 
may also be of some interest that 7 of the 37 city pairs, including one of 
those which in fact had no nonstop service by regulated carriers, had non- 
stop service provided by commuter airlines (numbers 30, 120, 140, 150, 170, 
200, 220). 

This examination leads me to conclude that the ATA study simply cannot be 
relied upon to predict the likely configuration of airline service under 
deregulation. Its inclusion of so many markets already being served by non- 
CAB-regulated carriers may in fact indicate the potential that reduced 
regulation has for improving service in other markets. But, in any case, 
the spectre of mass abandonment of nonstop service under deregulation is 
produced by a methodology so flawed that it merits the most extreme 
skepticism. 

There are other aspects of the study that also merit skepticism. For exam- 
ple, the implicit identification of service quality with nonstop service is 
questionable. There is clearly a tradeoff between limited nonstop service 
and more extensive service with seme stops. The conclusion that lower fares 



425 



will always reduce flight frequency on profitable routes is also question- 
able, because it is based on the existing regulated airline cost-structure 
and regulatory restriction of entry. The plain fact is that where entry by 
unregulated carriers has occurred, as in Texas and California, lower fares 
have widened the market sufficiently to produce more rather than less fre- 
quent flights. 

I hope that my comments are of some assistance to you. 

Sincerely vours, 



/ /, 




Professor of Business 
Economics 



SP:gb 



426 



UNIVERSITY OF VIRGINIA 

JAMES WILSON DEPARTMENT OF ECXJNOMICS 
CHARLOTTESVILLE 



May 12, 1975 



The Honorable Edward M. Kennedy 
Chairman, Subcommittee on Administrative 

Practice and Procedure of the 

Committee on the Judiciary 
United States Senate 
Washington, D.C. 20510 

Dear Senator Kennedy: 

I write in reply to your request of April 29, 1975 for 
a review of the Air Transport Association of America study 




_,..ied 
V..V- *-6..w >- r Even given this in- 
adequate scope, the study's categorization of routes as "profit 
able" or "unprofitable" is unreliable and cannot sustain the 
implications under its assumptions, namely that certain routes 
will be denied service under deregulation. 

The conclusions stated in Dr. James' letter cannot be 
supported by the ATA study. No claim that "scheduled air 
service might be eliminated" is possible because no evidence 
is presented showing that a new entrant would not be motivated 
to offer service. Indeed, the ATA analysis implies enormous 
profit for the Airline System, which under deregulation should 
invite abundant new entry and thereby undercut any claim that 
service would be eliminated. Nor is there any basis for 
assertions at page 2 that subsidized routes might not survive 
or that service would be unstable. Claims that lower rates 
would make many more routes unprofitable and would increase 
subsidy needs also cannot be supported by the ATA study. 



427 



The outstanding weakness of the ATA study is that it gives 
no attention to the functioning of market processes, which 
surely will accompany deregulation. In particular, despite 
the enormous profit rates implied by the ATA simulation, the 
reader will look in vain for any consideration of the possibility 
of entry into the airline industry by a new firm. The analysis 
simulates the action of a gigantic Airline System controlling 
completely the provision of airline service without giving any 
consideration to the possibility that a firm outside this organi- 
zation would see how profitable the airline industry is and 
decide to enter it. Although it thereby casts the airline in- 
dustry virtually as a monopoly and examines how much service it 
would offer, the study never pursues the equally important 
monopolist's decision about fares, but rather it merely maintains 
1973 fares. So even as an analysis of monopolistic organization 
of the airline industry the study is incomplete. 

Any study of effects on the airline industry of deregulation 
must focus on the prospects for entry by new firms. For it is 
through entry and exit that competitive markets achieve their 
efficiencies. A well known and most crucial feature of current 
airline regulation is its restriction on new entrants seeking to 
provide various categories of airline service. Indeed, the exit 
of firms from the industry, or the termination of service between 
city pairs which is emphasized in the ATA study, is a much less 
important issue than entry, particularly when exit often is 
already allowed much more readily than entry under current regu- 
latory practices. To examine the consequences of deregulation 
it is essential that entry and exit be probed. 

The ATA study ignores the possibility of new entry and 
indeed it does not even consider 1,267 non-subsidized routes of 
regional air carriers which already are in existence. As a con- 
sequence its implications simply are of no interest for the 
question at issue, namely, what will happen as a result of de- 
regulation? Having implicitly ruled out by assumption a major 
source of airline service to be expected under deregulation, that 
by new carriers, any claim by ATA that service will not exist in 
any market is obviously unreliable. One need not seek mistakes 
in calculations or faulty execution of ATA ' s method; the method 
of analysis is inadequate and inappropriate in its assumptions 
and in its design, and therefore it is incapable of predicting 
loss of service under deregulation. Ignoring new entry in this 
way is also certain to lead to misleading results because 



428 



profit is so high that entry will be motivated. 

One flaw does seem obvious in the study, however, even 
apart from its excessively limited scope in ignoring new entry, 
although not enough information is provided in the study to 
allow definitive analysis of the flaw's effects. The division 
of routes by ATA into "profitable" and "unprofitable" categories 
apparently does not consider explicitly that passengers carried 
on some routes labeled "unprofitable" by ATA actually travel 
farther and cause profit to be earned on routes labeled "profit- 
able" by ATA. The importance of this possibility is that it 
means part of the profit assigned by ATA to "profitable" routes 
actually should have been assigned to routes classified by ATA 
as "unprofitable." Thus the profitability categorization by 
ATA is potentially spurious, and it certainly cannot sustain 
any claim that routes categorized as "unprofitable" under ATA ' s 
method would not continue to be served by the source of service 
ATA considered (not to mention alternative sources, which were 
arbitrarily and inappropriately ignored in the ATA study). 

It is possible that some of the economies claimed in the 
ATA study through higher load factors actually can be achieved 
under deregulation, because current regulatory practices can 
lead to lower than optimal load factors, which raise costs. We 
presently rely on control over price plus competition in non- 
price areas among existing air carriers who are protected from 
new entry, as our means of economic regulation of airlines. If 
price is set too high under this arrangement the competing 
carriers will have an incentive to schedule many flights because 
flights are so profitable (see George W. Douglas and James C. 
Miller III, Economic Regulation of Domestic Air Transportation: 
Theory and Policy (Washington, D.C.: The Brookings Institution, 
1974) for an excellent analysis of this consequence of current 
regulation), with the result that load factors will fall. The 
competition of existing airlines thus effectively raises costs, 
at least until only normal profits are earned and further non- 
price competition is not motivated. If new carriers were allowed 
to enter the market, price control would not be needed and so 
such a result could not persist, because the new entrants would 
force price down. The ultimate equilibrium would be tailored 
more to consumers' preferences between flight frequency (and 
other non-safety aspects of service quality) and price. Such 
important consequences of deregulation were not broached in 
the ATA study, however. 

The ATA study also implies that profitability will increase 
enormously under deregulation. Profit from airline services as 



429 



considered by ATA will more than double while the amount of 
service and. in turn, the needed level of investment will be 
only a fraction of what it is now. The implied rate -of -retu: 
on airline investment is consequently very high We have 
abundant evidence that without laws preventing them, high 
rates of return always bring expansion and new entry, so the 
arbitrary exclusion of such consequences by ATA obviously is 
crucial to the results obtained. It is inconceivable that 




accompanied by high prof it . for such results together would be 
inconsistent with the functioning of competitive markets. 

It should be mentioned here again that the ATA study 
fectL^ ^ -jaintains 1973 fares. Were the Airline System pro- 
tected as fully from new entry as the ATA study assumes, the 
System almost certainly would move to higher fares and, depending 
on consumer responses which are not treated in the study, it is 
possible that routes would then be even more profitable and 

in lin^t^ ^'"^"^''°"'-^^^^"'^^ ^y ^^^ ^""I'i "°t be motivated. Thus 
in addition to ignoring new entry, by considering no mechanism 
for changing price from 1973 levels (except for arbitrary per- 
centage reductions due to causes that are never explained) ^the 
tltl "" Ignores the role of market mechanisms fo? determining 
III in^lu ' ^' '"'■^^"" °"'P"^- Although it may be of UmUed 
use m the present regulatory environment, since the ATA study 
does not allow for the functioning of market processes it ?s 
wholly inadequate to deal with the consequences of der;g;iat ion . 

ATA J"/°"^l"ding so firmly that the findings of the present 
ATA study are without merit I do not wish to criticize the ATA 
ev^'tu:ti;rc;n/' "^^ "°' unreasonable of the iTA^ti'^urn^for'' 
evaluating consequences to the simulation model which it already 



RS/jbm 





)herms 
'rol^ssor of Economics 



430 



Purdue University 

KRANNERT GRADUATE SCHOOL 

O F 

INDUSTRIAL ADMINISTRATION 

KRANNERT BUILDING 

WEST LAFAYETTE, INDIANA 47907 



May 9, 1975 



Senator Edward M. Kennedy, Chairmaji 
Subcommittee on Administrative Practice 

and Procedure 
United States Senate 
Washington, D. C 20510 

Deax Senator Kennedy: 

This letter is in response to your correspondence of May 1, 1975, 
which asked me to comment upon the Air Transport Association Study, 
"Consequences of Deregulation of Scheduled Air Transport Industry." 
My basic conclusion is that the ATA simvilation is an inappropriate 
model to use in order to investigate the resulting changes in a 
deregulated narket for the tr\ink earners. Its results of elimina- 
tion or vast curtailment of service must then be considered highly 
suspect. In this regard, my analysis echoes those of the Greenspan- 
Miller and Rees-Eads letters, which you were so kind to enclose. 

The crucial question the committee faces regarding the issues of 
deregulation is the following: "What system of controls (if any) 
should be imposed in order to maJte the public best off?" From an 
economic standpoint, I will argue that a competitive market is best 
for a number of reasons. 

I feel that a closer examination should be made using the examples 
of intrastate commerce (not under CAB price regulations), in order 
to investigate the possible consequences of deregulation. Two of 
my colleagues, Ron Adelsman and Mike Pustay provided me with useful 
insights into the problem. My opinions expressed here are my own 
and do not reflect the views of Purdue University. 

I hope this material will be of assistance to you; thank you for 
your consideration. 

Sincerely, 

a.,..^ou .'^ih.. ■^y/'^, 

Andrew Whinston 

Professor of Economics, Management 

and Computer Science 

AW/lg 

End. 



431 



COMMENTS ON AIR TRANSPORT ASSOCIATICHJ' S ANALYSIS 
CF THE CONSEQUENCES OF AIRLINE DERBGrULATION 

In the ATA stxidy, Dr. James states that there are basically three 
ajrproaches one can take in analyzing the consequences of a deregulated 
maxket: simulation, macroeconomic, or study of a deregulated environment. 
The macroeconomic model is dismissed as "intellectually elegant, has the 
dlssuivantage that it cannot be validated." Two examples of the last 
approach are given: the pre-1938 era and the California (intrastate) 
market. The author discards the first beca\ise the airline market today 
is vastly different (l agree), and he casually dismisses the second by 
terming it "chaotic." Thus, ve are left vrLth no choice but to take the 
simulation approach. 

There is nothing inherently wrong with performing a simulation per 
se, and certainly the Lockheed simulator is well respected and widely lised, 
as was pointed out by Dr. Miller in his letter (page 2). But, if the model 
is misused by subjecting it to a ta^k for which it was not designed and 
is ill prepared to handle, we face possibly disastrous consequences for 
timsting its output, as was mentioned by Dr. James himself. As has been 
described by the other letters, the simulation is indeed faulty in a 
number of areas. Furthermore, the ATA seems somehow to have misconstrued 
the present legislation before the committee. As a result, the conclusion 
that of the 99U trunk-carrier routes analyzed, "372 would be candidates 
for elimination under deregulation, while nearly all of the remaining 622 
could experience a sharp curtailment of service" (page 1) has no legitimate 
basis for support. 

In order to bolster the claim that the output of the model is in 
error, one can take two approaches : discredit the model itself by point- 
ing out its inadeqiiacies and/or show that the output provides irrational, 
answers to the input questions. At this jvmcture, I will reiterate the 
main problems in using the Lockheed simulator to answer the question of 
"What would happen to flight service in a deregulated environment?" 



432 



Faiilts of the A3A Simulation Approach 

The model does not simulate competition; it assvmies either a monopolistic 
airline or a firm with a constant market share. Since the proposed 
legislation of deregulating prices, if passed, wovdd have the primary 
impact of stimulating competition, a model that ignores this basic 
issue is inadequate at best. 

The city-pair method of analysis is a heuristic approach to the problem 
that has two attendant faults. Since a full-costing approach has been 
taken, some common fixed costs, such as depreciation, mxist be artificially 
allocated. This procedure is not an Incremental analysis as was re- 
quested by the committee. Ftcrthermore, the concept of one leg of a 
multi-stop trip being a loss leader for the entire tour has been sup- 
pressed. 



.B 



Not Very 
profitable Profitable 



Small Profits 



Small Profits 



Thus, although Profit could well exceed Profit , since the leg AB 
is a loss leader, fliglit service wovQd erroneously be cut from city A 
to city B. Tliis can result when most of the passengers from A wish 
to travel to C. 

Althoi\gh the ATA study does investigate the effects due to the price 
elasticity of demand (cuts in fares of 10^ and 20^), it completely 
ignores the effects due to the service elasticity of demand . Suppose, 
for the sake of argument, that service between cities A and B were 



433 
- 3 - 

curtailed. Then, those displaced passengers would have three choices : 
cancel their trip, travel by another mode of transportation, or travel 
CO one of the remaining flights. The proportion that exercised the 
last option would increase load factors and profits of the airlines 
retaining service. This service elasticity has not been ta>.en into 
account by the AIA study. It would manifest itself most strongly be- 
tween city-pairs at longer distances and with few current flights. In 
the extreme case, vdiere there was only one flight, that airline would 
control the market and would act as a monopolist. If his return on 
investment were inordinately high, competition would reenter the marketj 
thus reducing economic profit. 

The other line of attack against the conclusions of the AIA study is to 
investigate the reasonableness of its conclusion. Again, most of these 
points have also been mentioned previously. 

Issue 

1. The output of the ATA study shows that given 1973 costs and revenues, 
the trunk airlines would eliminate or curtail service if they could do 
so. As a matter of fact, those airlines do have the capability of 
vastly cui't ailing- their service under present CAB regulations, but for 
"some reason" have chosen not to do so. Tlie certificate of serive 
only imposes lower bounds (usually one or two daily flights) into and 
out of a city — note: not between city-pairs. Thus, the trunks can 
presently cut their service levels, a fact that casts doubt upon the 
validity of the ATA model. Since airline managements are presumably 
profit maximizers, the fact that service has been maintained is an 
indication that they feel that there is a realization of incremental 
profit, contrary to the sim'olation results. 

2. As \«is indicated by the other two letters operating at so-called 
optiraality wo-old yield a $2 billion profit with a ROI over 70^, a 
patently ridiculous result which can occur by misapplying the model 
which ignores competition to its extremes. 

3. The proposed legislation at present does not deal with elimination of 
subsidies to the local airlines, a complex issue in its own right. 



51-146 O - 76 - pt. 1 - 29 



434 



Yet, the ATA study monetheless lumps these 1,198 local service routes 
Into their results, claiming (with no support) that these too would 
be candidates for elimination. a3ieir inclusion in the graphs (as 
pointed out by George Eads) appears to be a smoke screen aimed at 
buttressing their argument. 

Having hopefuUiy laid to rest the specter of mass cancellation of flights 
(since this tactic is presently available and has not been exercised), I 
will now turn to what I feel is the relevant issue before the committee: 
"What are the costs and benefits associated with the deregulation of prices 
for the trunk airlines?" From an economic perspective, the following 
arguments can be advanced: 

1. Currently aTL price variations are subject to CAB approval. The 
delay factor in seeking and getting approval for fare changes 
inhibits rapid adaptation to changing demand patterns in the market. 
In a "ftree" market no longer would this flexibility be retarded. 

2. Fixing prices reduces competition and protects inefficiency. 
Basically each airline firm faces three kinds of competition: 
substitution effect - traveling via another mode of transportation, 
price effect — traveling on another airline that flies more cheaply, 
and differentiation effect - traveling on another airline because 
it is more preferred for reasons other than price. When prices are 
set, the first two components of competition are also fixed. Thus, 
intra-industry competition has been substantially reduced. If the 
set price is too low, firms will not make a profit and will elimin- 
ate Eci-vice (get out of the market), which they can do, in general. 
If the set price is "on the mark" no harm will have been done, 

But, if the price is too high, the consumer is in effect subsidizing 
the trunks with the Impiicit sanction of the government. Carriers 
vrtiich norraaUy could not derive a profit can continue to exist on 
this subsidy. Furthermore, by their very existence they raise the 
cost of entry to the market. Thus, other firms, presently outside 
of the market, might be able to fiy routes more economically, but 
current market penetration by inefficient carriers prevents their 
entrance into the market place. 



435 



- 5 - 

3. Due to reduced price competition, the airline industry may tend 
to overallocate expenditures in seversLL areas as advertising and 
other non-price promotional categories. 
k. There is no real Justification for setting prices. The airline 

industry is not monopolistic, nor is it a public utility. Certainly, 
minimum safety standards must be maintained; but allowing price 
competition has no bearing on this issue. 
I have argued from an economic perspective irtiy deregulation should be 
undertaken. The gnawing question of what would then happen still remains. 
Would prices remain fixed or go dovm? Would service decrease or increase? 
No one has a crystal ball. The AIA looked at the problem only from the 
service angle; I believe their excmination was faulty. According to its 
Hiase 9 opinion in the Domestic Passenger Fare Investigation , the CAB 
concludes that price setting results in an elimination of excess profits 
via a supersatxaration of flights in the market (thus diminishing load factors 
to the breakeven level) . If the trunk market were deregxolated, the following 
fare-service situations coxild occur for a given city -pair: 

1. No change in price because the regulated price accurately reflected 
the free market clearing value. In that case the trunks would have 
no incentive, to change their service (everything else remaining the 
same). 

2. Price of fares decrease because the public "subsidy" has been 
eliminated. Indeed, service most likely would be curtailed some- 
what, the amo\jnt depending on both the price and the service elas- 
ticities of demand. The airlines would become more competitive 
and efficient; their scheduling times would cater more to the 
variations of customer demand. The profit picture of the trunks 
WDXild not significantly change; in neither the pre- nor the post- 
deregulation periods would they be making excess profits. In 
fact, if anyone would be adversely affected, it would be the equip- 
ment manufacturers. The public would be better off because their 
fares would be reduced, and the airlines would be more rapidly 
responsive to their changing demand patterns. The amount of the 
drop in service, I feel, would not be significant. In any event, 



436 



-6 - 

the wholesale cancellation of scheduled fli^ats would not occur for 

reasons mentioned previously. 
Since the simulation model has not provided definitive answers to the 
questions posed by the connittee, the next task is to seek the appropriate 
avenue of investigation. There ore basically the three approaches mentioned 
by Dr. James in his letter: 

1. Build a macroeconomic model. To construct such a model from 
scratch in which one could place faith in its output would be a 
most difficult task. 

2. Build a simulation model that appropriately reflects the problem 
at hand. To incorporate congjetition, service elasticity of demand, 
and correct the misallocation of costs via the city-pair method 
would be a formidable job. 

3. Study the effects of non-regulation in price in some of the larger 
states ~ say California and Texas. The market in these states 
could then serve as a microcosm for a nationwide projection. In 
partic\alar, I feel that a more thorough analysis of fare and service 
rate changes should be made with regard to the entrance into the 
market of Pacific Southwest Airlines (PSA) and Southwest Airlines 
(WN). 



' 



437 

Prepared Statement of George W. Douglas 

I am grateful for the opportunity to come before you today to comment on the 
regulation and performance of our airline industry. In the current inflationary 
environment it is particularly appropriate that your committee undertake to 
examine the operations and policies of the Civil Aeronautics Board. For while in 
the early years of the industry the modus operandi and protective policies of the 
Board ma.v have served a useful role, they are in large measure now outmoded 
and now serve primarily to significantly increase the costs, energy usage, and 
prices of air transportation. Certainly in an era of inflation, energy shortage, and 
general financial stringency we can ill afford to perpetuate these costly and waste- 
ful practices. 

I should like to note at the outset that I do not attribute this state of affairs to 
venality of the regulators : tliey have not structured or regulated the industry 
so as to bestow excessive profits on the air carriers. Rather, the effect of the 
traditional regulatory practices and policies of the CAB has been substantial in- 
creases in the costs of the carriers and fares paid by the public for air travel. 
While the regulatory policies which increase costs and prices are numerous, by 
far the dominant aspect of waste is associated with the excessive level of empty 
seats carried in the system. While the nature of the market requires that some 
proportion of the seats on average be unfilled, the level which prevails is exces- 
sive. I have calculated that from this source alone, the costs and fares of pas- 
sengers in 1969 were in the range of $366 million to $538 million in excess of the 
fares they would have paid in the absence of this waste. While I have not access 
to current data which would enable me to completely reestimate these results for 
1974. by extrapolation they would be on the order of $850 million. One can gain a 
similar "real world" perspective of these costs by comparing the fares which 
prevail in the intrastate markets of California and Texas and those of similar 
interstate markets on the east coast. I have described these fares in table 1, and as 
as you can see those in the CAB regulated interstate markets are from 29 percent 
to 109 percent higher. I have also calculated in an earlier study the fares which 
could prevail in other interstate markets, taking into account all tho.se factors 
which would affect the level of eflScient costs, such as distance, market density, 
aircraft t.vpe, service quality and convenience. These "optimal" fares and the 
actual coach fares of 1972 are reported for several markets in table 2. While 
some minor portion of the observed differences can be attributed to other sources 
(i.e., weather and traffic delays, terminal costs and landing fees), the major rea- 
son why the California and Texas carriers can operate profitably at such a con- 
siderably lower fare is their significantly higher load factor (i.e., proportion of the 
total seats filled). Since most of the costs in air transport are simply those of 
flying the aircraft from terminal to terminal, clearly the average cost per pas- 
senger is reduced by increasing the number of passengers per flight. There is ab- 
solutely no reason why the invisible state boundaries over which the aircraft pass 
on these and other interstate routes should change the nature of the airline mar- 
kets so that these passengers should continue to pay these excessive fares. 

TABLE I.-COMPARISON OF FARES IN SELECTED INTRASTATE AND INTERSTATE MARKETS (DECEMBER 1974) 



City-pair market 



Fare (cents 
Distance Coach fare per mile) 



Boston-Washington 

San Diego-San Francisco '._ 

Chicago-Minneapolis 

Los Angeles-San Francisco' 

New York-Washington 

Dallas-San Antonio' 

Boston-New York 

Washington-Philadelphia. . . 
Los Angeles-San Diego ' . . - 



413 


$45. 00 


10.90 


449 


29.00 


6.46 


344 


42.00 


12.21 


355 


20.75 


5.84 


228 


2 29.00 


3 12.72 


253 


^25.00 


5 9. 88 


186 


26.00 


13.98 


133 


24.00 


18.05 


101 


10.75 


10.64 



' Intrastate markets not under CAB regulation. 
- $25 off peak or night coach fare. 
3 $10.96 off peak or night coach fare. 
* $15 off peak or night coach fare. 
^ $5.93 off peak or night coach fare. 



180 


$16.82 


$24. 00 


$20. 85 


1.24 


184 


20.63 


23.00 


19.97 


.97 


256 


18.67 


28.00 


24.23 


1.30 


675 


32.29 


55.00 


46.63 


1.44 


1,092 


44.65 


83.00 


69.95 


1.57 


1,627 


64.99 


113.00 


93.05 


1.43 


2,453 


86.88 


163. 00 


134.21 


1.54 


2 434 


92.10 


155. 00 


127.63 


1.39 



438 

TABLE 2.-ESTIMATES OF OPTIMAL AIR COACH FARES AND ACTUAL FARES, SELECTED MARKETS 
[In 19711 

Ratio of 

Optimal Coach Adjusted adjusted yield 

City-pair market Distance fare fare yield' to optimal fare 

Baltimore-New York 

Huntsville-Memphis 

Chicago-St. Louis 

Chicago-Philadelphia 

New York-Miami 

Denver-New York 

Los Angeles-New York.. 

San Francisco-Washington 

1 Adjusted for incidence of discount fares (see CAB docket 21866-9, exhibit BC-6006). 

Source: George W. Douglas and James C. Miller, III, "Economic Regulation and Domestic Air Transport," The Brook- 
ings Institution, Washington, 1974. 

The ostrich-like attitude of the CAB in ipnoriug the lessons of tlae California 
experience and in not seeking the manifest henefits which could he obtained for 
the travelling public generally can only be regarded as scandalous. This attitude 
of the Board was not based on ignorance ; as early as August 1965, a CAB staff 
report carefully pointed out the fares, costs and profitability in the California 
intrastate markets. (See S.L.R. Brown and Associates, "Traffic. Fares and Com- 
petition/ Los Angeles-San Francisco Air Travel Corridor." Staff Research report 
No. 4, Research and Statistics Division, Bureau of Accounts and Statistics, 
August 1965). 

To understand how these cost and fare differentials arise between the inter- 
state routes under CAB regulation, and the intrastate routes, which are not, one 
must look to the nature of the airline markets under CAB regulation. The prin- 
cipal aspects of CAB regulation which have brought us the high cost-high fare 
markets are those affecting price competition and entry. Effective price compe- 
tition (where it in fact exists) in the unregulated industries serves an im- 
portant role in both keeping prices in line with the lowest possible costs of pro- 
duction of goods of a given quality, and in forcing producers to produce effi- 
ciently. On examination of the history of CAB policy in this area, one can only 
conclude that its principal thrust has been to discourage or suppress price com- 
petition among the carriers. Carriers are discouraged from comi)eting with price 
because fare changes must be filed with the Board, and are subject to challenge 
by their rivals. Having observed a pattern of disapprovals, they understandably 
seek other avenues of rivalry. 

Complementing the discouragement of price competition is the Board's con- 
sistent sheltering of the industry from competition by new firms. Upon the 
establishment of the CAB in 1938, the existing carriers were given certificates 
of public convenience and necessity accorded them by their "grandfather" rights. 
While the CAB has allowed the entry of a new class of "local service" carriers, 
it has not allowed the entry of a single new trunk carrier to compete in the 
principal markets since 1938. CAB entry protection has been sufficient to enable 
the grandfather carriers to retain about nine tenths of total domestic air service, 
despite a 250-fold increase in total traffic since 193S. Since in unregulated indus- 
try the absence of effective price competition and excessive prices brings about 
new entrants, one can see the importance of the foreclosure of entry in discourag- 
ing effective competition. While the Board has granted the entry of existing firms 
Into formerly monopoly markets (i.e., between two cities) so that monopoly itself 
is not a major problem, the fact that each firm faces the same rival in many 
markets reduces the incidence of competition. 

It should be pointed out, as well, that a monopoly is not required for the effi- 
cient operation of air transportation. Unlike the generation and distribution of 
electric power, for example, econometric studies of the airline industry's costs 
are virtually unanimous in showing tlie lack of scale economies. That is, in the 
former case, since electric power can be produced and distributed in a city at 
less cost by one large firm than four smaller firms, it is in the public interest to 
establish and regulate a monopoly. This is not the case in the airline industry. 

While the airlines do not compete with prices, they do compete in other ways, 
such as advertising and the provision of passenger services and amenities. This 
form of competition is beneficial to the traveller, and can be most noticed in its 
absence in those markets with only one carrier or whether there is no effective 



439 

competition for some other reason. But of far greater consequence in attracting 
passengers is the frequency of flights. The carriers have discovered that the 
surest way to increase their share of the market is to increase their flight 
frequencies. 

Thus, even though the fares in most CAB-reguIated markets are too high, this 
does not mean that the carriers earn excessive profit. Rather, the result of the 
nonprice comjjetition, i>articularly in .scheduling, is to increa.se the average cost 
per pa.ssenger carried up to the level of the price. In economic terms, we would 
describe this market as one in which the costs are determined by the price, rather 
than the reverse, which Ls the usual ca.se. While along with the higher price, the 
travelling public does benefit from the convenience of more frequent departures 
(and a reduction of the chance that a seat is not available on the preferred 
flight j, the additional costs are well out of proportion to any po.ssible value that 
could be attributed to this convenience. In short, the reason why the costs in the 
regulated indu-stry are high and the number of wasted .seats is large and the 
amount of wasted fuel is high, is .simply that the CAB-regulated prices have been 
too high. They are particularly .so in the long distance routes and in the densely, 
heavily travelled route.s. 

By contrast, the regtilatory restraints imposed by the state commissions of 
Texas and California have not had the .same effect. The intrastate c-arriers have 
found that they can effectively comijete with a fair profit by offering .services at 
a considerably lower price, doing so becau.se they have found ways to reduce 
.some operating costs, but more importantly, by adjusting schedules "so that they 
fly fewer empty .seats. With commensurately lower fares in interstate routes, the 
CAB-regulated carriers would be forced to do the .same. 

Since the relatively high-fare high-cost equilibrium which obtains in the inter- 
state markets have not provided the economical services the public deserves, nor 
provided the carriers an exceptional profit, why does such a condition exist? 

My own interj^retation of the regulatory hLstory is that the CAB has failed to 
understand adwjuately the basic economic forces in the industry and the changes 
which have occurred which should have altered its fundamental policies. 

The legislative "Declaration of Policy" in the Federal aviation acts by which 
the CAB operates admonishes the CAB to "promote" the industry as well as reg- 
ulate it. In its formative years as an "infant" industry it was the belief of Con- 
gress that its development was in the national interest, and the industry was for 
many years encouraged in its growth by direct sub.sidy. In addition to direct 
subsidy the CAB attempted to further promote and expand the industry by in- 
ternal cross subsidy. That is. the carriers would be required to fly a number of 
routes that could not cover costs. To compen.sate the carriers for the.se losses the 
carriers were allowed to earn exce.ss profits in the viable markets. To shelter 
these profits required the competitive restraints described above : barriers to new 
competition and discouragement of price competition. While the.se arrangements 
for cross subsidy even in the indastry's formative years can be criticized on eco- 
nomic grounds, they nonethele.ss had some logic given the stated goals of extend- 
ing air tran.sport .services as rapidly and extensively as rx».ssible. 

The industry has grown and prospered, and is now the dominant commercial 
mode of intercity traveL The trunklines grew out of their needs for direct sub- 
sidy in the fifties, and the role of expanding .services in small markets was as- 
sumed by the local .service carriers. Just as the trunk carriers have outgrown 
their need for direct subsidy, they have al.so outgrown the need for internal cross- 
sub.sidy. Reflecting thLs in some extent is the Boards action in the last 10 years 
or so of increasing the number of carriers in each viable market. However, the 
traditions of .sheltering and protection from competition developed in the indus- 
try's early years have persisted, although the need for them has pas.sed. In the 
milieu of nonprice competition, the fare levels which would have once generated 
the excess profits in the "lucrative'" markets, are dissipated in higher costs to the 
benefit of no one. 

Lest I Ije misinterpreted as suggesting that the CAB expand its regulation to 
include the restraint of .scheduling competition, let me declare directly that such 
a move is unneces.sary and undesirable. Were the CAB to take a policy which 
would encourage more effective price competition, the price level would fall and 
with it the level of exce.ss capacity offered. Currently pending before the Board 
IS an important ca.se in this regard, in which the Board must consider the d-^-sir- 
abiUty of mutual agreements by the carriers to restrain capacity. This would in 
effect, perfect the cartel, and if not coupled with fare reduction.s ( which are not 
propo.sed; would generate excessive profits in tho.se markets. Travellers in those 
markets would be paying for a level of .service which would be denied them bv 
anticompetitive agreement. 



440 

The tradition of attempted cross-subsidy and the Board's apparent aversion 
of efficient low-cost air travel is nowhere more apparent than in the interna- 
ti(mal markets. The CAB, while not unilaterally regulating these markets, 
has a contributing role which has seldom advanced the consumers' interest. In 
this case, the CAB sets rules which shelter the international cartel (The Inter- 
national Air Transport Association) from effective price competition. The plainly 
excessive lATA fares are sheltered by CAB policies which restrain air charters 
with affinity rules, and now with minimum fare floors. Moreover, the occasional 
proposals for entry of a new carrier promising efficient, low-cost service are re- 
jected even though there is no credible evidence that the service would be 
predatory (i.e., below cost). 

The tradition of cross subsidy is so engrained with the regulator and the in- 
cumbent carriers (one can predict its stout defense by the Air Transport As- 
sociation), that even a statement of policy contrary to the same by the Board 
in the Domestic Passenger Fare Investigation has had imperceptible results in 
actual policy. Let me state some frequent criticisms by economists of the practice : 

1) If the policy is effective (generating profits in some markets which 
subsidize losses in others), there is a net loss of benefits; the additional 
benefits received by those consuming the subsidized good or service are less 
than the additional costs borne by those in the market providing the 
subsidy ; 

2) There is no presumption that the implicit transfer of benefits is equit- 
able. Particularly it should not be assumed that the traveller in the 
"large" market (e.g. the grandmother flying from New York to Los Angeles) 
has a higher income than the traveller in the "small" market (e.g. the 
businessman flying from Cedar Rapids to Chicago) . 

3) The cross-subsidy mechanism is seldom effective. As in the airline 
industry, to provide one dollar extra profit in one market may require that 
the consumers pay five or more dollars in additional fares. 

4) The amount and value of the subsidy is invisible, and not subject 
to regular review by the agency or the Congress. Hence, the level of sub- 
sidized services tends to grow well beyond that intended. A corollary is 
that the nonremunerative services provide an attractive legislative pork 
barrel whose costs are not revealed. 

I should like to take this opportunity to speculate on the various methods of 
reform that might influence tlie CAB to lie more responsive to the needs of 
the public in developing an efficient air transport system. As is evident from my 
statement today. I feel that current Board i>olicy is misfUrected (or at best, 
without direction). To this I might offer some personal observations. 

First, upon initiating my studies of the airline industry in 15)68. I was sup- 
posed to find that the CAB. whose mission is the economic regulation of the 
industry, had so few professional economists on its staff. The rare exception 
of a very capable economist of whom I am aware, appears to be an embarrass- 
ment to be ignored. By the same token, the membership of the Board has never 
included an economist, and to my knowledge and observation, the economic 
training and perception of the administrative law judges would appear most 
rudimentary. I am not suggesting that economic expertise would ensure con- 
sistently good decisions, or insulate a member of the Board, for example, from 
the pressures he faces, but one cannot help but believe that there would be 
fewer policies which aid no one/or are futile. 

Second, the experience of the permissive regulation in California and Texas 
suggests that some substantial, phased movement toward deregulation should 
occur. I say this from a background of pragmatism, rather than from a doctrin- 
aire "free market"' philosophy. (I am a Ph. D. from Yale, not Chicago.) In fact, 
one of the remarkable things about the study of regulation of transportation is 
the consensxis of almost all economists, "liberal" and "conservative." that it has 
in large measure failed its intended purpose or is currently obsolescent, and is 
desired only by the industries regulated. 

Recognizing tlie improbability of a phased deregulation of the industry, I 
would like to offer some proposals that would cau!<e airline regulation to be more 
efficient and resjionsive to tlie public. These proposals were made by James C. 
Miller III and me in our recent study of the industry for the Brookings Insti- 
tution.^ and are taken directly from that study : 



1 Goorffe W. Doufilas and James C. Miller III. Economic Rojrulation of Domestic .Vir 
Transport : Theory and Policy, Brookings. Washington. 1974. 



441 

KEFORMS UNDER EXISTING LEGISLATION 

Under the Federal Aviation Act the Board has considerable latitude in framing 
regulatory policy. We shall here describe a number of recommendations which 
are possible under the existing statute. First, a set of possible actions that 
should not be attempted. 

1. Do n/it attempt to regulate return on investment. — As described in chapter 4, 
carriers will employ nonprice competition to a point where the anticipated return 
on additional investment is equal to the carriers' own internal required rate of 
return. Board attempts to regulate this return precisely as a predetermined 
reasonable rate will prove fruitless and will lead the market equilibrium away 
from the efficient combination (see figure 4-2). 

2. Do not approve eapacitij agreements. — As described previously, the long- 
range effect of capacity agreements is carrier inefficiency in matching capacity 
with demand. Another result is excess profits in capacity-controlled markets, pro- 
vided fares are not adjusted downward accordingly, which represent an alloca- 
tive efficiency cost. 

3. Do not approve fuel reduction and rescheduling agreements. — Restrictions on 
fuel supplies to airline firms obviously limit the amount of capacity they can 
offer. Competition among firms in planning schedules leads generally to an effi- 
cient ovei-i^ll network, that is, capacity offerings responsive to passenger demand. 
Not only are rescheduling agreements not needed, but they lead to inefficiencies 
and create excess industry profits. 

4. Do not limit entry to protect incumbent carriers. — As described in chapter 
7, entry controls insulate existing carriers from competition. If a prospective 
entrant appears likely to succeed in the market to the detriment of an incumber 
carrier, then this may be an indication that the new carrier is more efficient. Pro- 
tests from incumbent carriers are to be exi)ected, but to give them great weight 
is to encourage technical inefficiency. 

5. Do not suspend or find unlawful fare decreases on grounds of protecting 
competitive carriers. — Understandably, whenever one carrier proposes to reduce 
a fare its competitors will object, preferring instead the existing fare level. Re- 
fusing to approve such an initiative protects less efficient carriers and con- 
strains differentiation in price-quality options. 

6. Do not limit exit from service. — If a carrier wishes to suspend or abandon 
a market, its decision is an indication that the social value derived from the 
service is less than the cost of providing it. To constrain exit is inefficient. (How- 
ever, the Board should be liberal in certificating a new carrier in any abandoned 
market. ) 

7. Do not regulate commuter carriers. — Continuing the exemption for com- 
muter carriers is a good way of testing the efficiency of trunk- and local-service 
carrier service. That is, if a commuter carrier can provide service under regu- 
lator-imposed cost disadvantages, then this is a market test of the inefficiency of 
trunkliue and local service carrier provision. 

8. Do not further restrict (charter) operations of the supplemental carriers. — 
The supplemental carriers provide a vital function in competing with the sched- 
uled carriers. Not only do they provide benchmarks of technical efficiency, but 
they reveal the need for lower price-quality options in scheduled service. With- 
out the supplementals the inefficiencies of trunk service would be partially 
masked. 

FEASIBLE PROPOSALS OF AN AFFIRiIATI\-E NATURE 

1. Detemune and bring about the optimum level and structure of fare-quality 
options. — Hold a specific hearing in which the trade-off between fare level and 
quality is brought under close scrutiny and a determination is made concerning 
the optimal level and structure of fares and quality. At the same time, explore 
the feasibility of increasing the number of price-quality options. 

2. Hold general investigations regarding policies toward entry, exit, mergers, 
and collusion. — At present, all of these matters are treated on an ad hoc basis. 
An investigation which looked at the.se issues in the same depth as the Domestic 
Passenger Fare Investigation looked at fares would be appropriate and presum- 
ably would lead to the identification of more si>ecific, efficiency-inducing policies. 

3. Encourage price competition and market tests of p7-ice-quality options. — 
Conclude that under .section 1002(d) of the PYderal Aviation Act a zone of reason- 
ableness for fares is in the public interest. Such a zone might work either in 
terms of per se reasonableness (meaning lawful on grounds of reasonableness 
whatever the ca.se), or prima facie reasonableness (that is, presumed to be law- 
ful on grounds of reasonableness unless proven otherwise). This might also be 



442 

coupled with a stated policy of giving less weight to questions of alleged discrim- 
ination, preference, or prejudice. The zone might also allow for broad variations 
in price-quality options, thereby giving market tests of the preferred combinations. 

4. Reform the decisionmaking process.— It would enhance economic eflSciency 
if in the adversary process more emphasis were placed on substance and less on 
form. Also, it would improve the quality of decisions if more economics expertise 
were required of administrative law judges and Board oppointees. Finally, in 
view of the tendency of the Board to minimize squawk, public or private interest 
advocates with economic efficiency positions should be encouraged to present 
their case. 

While the above reforms do not exhaust the possibilities feasible under exist- 
ing legislation, they include some of the more important ones, and, if adopted, 
would go far toward increasing the efficiency of airline markets. 

KEFORMS REQUIRING ADDITIONAL LEGISLATION 

Even more substantive reforms are possible with new legislation. Essentially, 
initial legislation setting up a regulatory agency specifies broad objectives for 
regulation and grants powers to the regulator which ultimately take the form 
of constraints on industry behavior. Reform legislation typically can take one 
or more of three directions. First, it might change or identify more clearly 
regulatory objectives ; second, it might specify particular restraints on the in- 
dustry, thus telling the Board more clearly what to do ; or third, it might prohibit 
certain previously imposed restraints, thus telling the Board what not to do. The 
reforms described below contain aspects of all three. 

1. Redefine public interest to mean economic efficiency. — As described in the 
appendix, the legislative "Declaration of Policy," which essentially defines the 
term "public interest" as used in the statute, is ambiguous and contains mutually 
conflicting goals, some of which are inconsistent with economic efficiency. A 
simple legislative change which would have an important effort is replacing the 
Declaration of Policy with a policy statement admonishing the Board to foster 
efficiency in airline markets. 

2. Separate promotion activities from economic regulation. — As described 
above, the Board has attempted to promote air transportation and this has re- 
sulted in efficiency losses. If there are public-good aspects of the industry which 
require its artificial promotion, then this is better accomplished through other 
means. For example, as the Ash Council has recommended, transfer the promo- 
tional activities of the Board to the Department of Transportation. Also, promo- 
tion, if it is to exist, should be designed to augment efficiency in the provision of 
the subsidized service. An example is the competitive bidding scheme proposed by 
the Board to assure service at low-density points. 

3. Alter burden of proof. — Change the Federal Aviation Act to make entry 
and exit merely consistent with the public interest, rather than required by it. 
Make the approval of collusive agreements required by the public interest, instead 
of being "not inconsistent with the public interest." These changes arguably would 
make entry and exit freer and would restrain Board sanctioned collusion. 

4. Expand regulatory exemptions. — Broaden the class of exempt carriers which 
may provide schedule^l air service. This could be at^complished in a number of 
ways. First, grant commuter carriers an explicit exemption and liberalized 
standards of aircraft size. Second, allow existing charter carriers to engage in 
single-ticketed scheduled service. Third, totally dereguljite the denser city-pair 
markets. The instances of inefficiency under complete deregulation are likely 
to be minimized the larger the market size; also, the greatest efficiency gains 
from deregulation are likely to be found in such markets. 

5. Withdraw or modify CAB power to approve intcrcarrier agreements. — 
Revise section 412 of the Federal Aviation Act to eliminate tlie power of the 
Board to circumvent Iho antitrust laws and approve and enforce cartel agree- 
ments. With possibly few exceptions, agreements coming imder this provision for 
the purpose of escaping antitrust liability are inconsistent with maximizing 
industry performance. 

In both explaining regulatory behavior and in assessing the probability of 
reform, discussions of economists usually touch a common theme : that the firms 
being regulated, being few in number and having such a large, perceived stake 
in the legislation and policies of regulation carry an overwhelming influence when 
compared with the consumers, wliose numbers are immense but whose burdens 
are ill perceived and spread thinly. It is my hope that the hearings of this com- 
mittee may in some measure redress this bias. Thank you. 



COMPARISON OF UNREGULATED INTRASTATE AIR- 
LINES WITH REGULATED INTERSTATE AIRLINES 



FRIDAY, FEBRUARY 14, 1975 

U.S. Senate, 
Subcommittee on Administrate: 

Practice and Procedure of the 

Committee on the Judiciary, 

Boston., Mass. 
The subcommittee met, pursuant to notice, at 9:45 a.m., in room 
2003A, JFK Federal Building, Senator Edward ^L Kennedy, chair- 
man of the subcommittee, presiding. 
Present : Senator Kennedy. 

Also present : Stephen Breyer, special counsel ; Philip Bakes, as- 
sistant counsel; Thomas M. Susman, chief counsel; and Stephen L. 
Jones, minority counsel. 

Senator Kennedy. The subcommittee will come to order. 

OPENING STATEMENT OF SENATOR KENNEDY 

The Subcommittee on Administrative Practice and Procedure is to- 
day continuing its hearings on Federal regulation of the airlines and 
its effects on air transportation. The subcommittee began these hearings 
in Washington last week, with representatives from various Govern- 
ment agencies and independent economists arguing that Federal 
regulation of airlines by the Civil Aeronautics Board is costly and in- 
efficient. As one witness pointed out, while the traveler may be pleased 
to find the seat next to him empty so he can stretch out, he might not be 
as comfortable if he knew that he was paying for that empty seat. 

The airline passenger these days can get free drinks on coach or a 
piano bar in the lounge. He can fly a "yellowbird'' or other designer- 
colored airplanes, and can choose menus and movies. He can "fly Carol 
to Miami" or content himself in someone else's "friendly skies." JBut one 
thing he cannot do is fly cheaply. He may choose between airlines, but 
he cannot choose between air fares. A lot of people believe that the 
Federal Government is responsible. And they may be right. 

The Civil Aeronautics Board regulates air fares. These have been 
skyrocketing in recent years and continue upward. Some economists 
have estimated that air fares presently average 32— iT percent, and in 
some cases 100 percent, higher than they would be without CAB 
regulation. 

For Boston residents, that could mean flights to Xew York for $15 
instead of $28, to Washington for $21 instead of $45, and to Los Angeles 
for $90 instead of $188. 

The CAB also regulates the entry of new airlines into the market- 
place. But the CAB often delays action on requests by existing carriers 
to serve new routes. And it generally discourages or refuses to act on 
applications by new airlines to begin new service. As a result, not one 
new trunk airline has started operation since 1938, while the number 
of major carriers has actually decreased because of mergers. 

(443) 



444 

The people of Massachusetts know this. Northeast Airlines merged 
with. Delta 3 years ago. Service has been cut back to many areas of 
the State. We are especially fortunate, however, to be in one of the 
few areas of the country receiving new service, from Air New Eng- 
land. In the current climate of Federal regulation, though, the future 
holds no special promise for a bright young innovative competitor in 
the airline business. For competition seems to be a word missing from 
the CAB's dictionary. 

We will also ask the regulated airlines who fly the Northeast 
whether they have considered this question — whether they could pro- 
vide the kind of low-price service that PSA and other State airlines 
provide in other parts of the country. 

This subcommittee began its investigation of the CAB as a first 
step in the regulatory reform process. I was pleased to see that in our 
hearings last week, the administration responded to our efforts, and 
has promised to develop and support a legislative reform package. We 
will continue these efforts in future hearings. 

The difference between low air fares and high air fares should not 
be the difference between the absence and presence of Federal regula- 
tion. If it is, then we must be prepared to overhaul regulation and 
make it more responsive to the citizens it is intended to serve. 

Our first witnesses this morning will be Kobert W. Clifford and 
Lawrence Guske. 

Mr. Clifford has spent over 25 years of his career experience in 
airline management, and he is now president of Air California. 

Mr. Lawrence Guske, is assistant controller of Pacific Southwest 
Airlines and has appeared as witness for Pacific Southwest Airlines 
in several hearings before the California Public Utilities Commission. 

STATEMENTS OF LAWRENCE A. GUSKE, ASSISTANT CONTROLLER, 
PACIFIC SOUTHWEST AIRLINES, AND ROBERT W. CLIFFORD, 
PRESIDENT, AIR CALIFORNIA 

IMr. Guske. Would you like for me to read my statement? 

Senator Kennedy. No, maybe just highlight it in 2 or 3 minutes, if 
you could do that for us. 

Mr. Guske. Essentially some background on PSA, we serve only 
in the State of California. We serve the Stat« with jet aircraft. We 
carry approximately 6.4 million passengers a year. Our current fares 
in our primary markets average approximately 5.68 cents per revenue 
passenger-mile. AVe have currently pending before the Public Utilities 
Commission, by which we are regulated as to fares and markets, an 
increase which would bring those primary market fares up to approxi- 
mately 6.3 cents per mile. We currently serve 32 city-pairs in the State 
of California. 

I think that summarizes who PSA is and the type of service we 
provide. 

psa's "no-frills" service 

Senator Kennedy. I have had a chance to review the rates that are 
charged by PSA and allowed by the CAB. Why do you think you 
are able to charge a good deal less than regulated air service carriers ? 



445 

Mr. GusKE. Actually, in the State of California, the CAB carriers 
that compete with us have the same fares that we do. But as far as 
going to the point of fares, in and of themselves, I think it can be 
attributed to several factors. We try to keep our overhead as low as 
we possibly can. The type of service we offer is no-frills type service. 

Senator Kennedy. What do you mean by "no frills?" 

]Mr. GusKE. We do not have food service. 

Senator Kennedy. Do people not demand that? 

Mr. GusKE. No, our flights are generally very short, approximately 
an hour. 

Senator Kennedy. Sort of like New York to Washington ? 

Mr. GusKE. I think it would be somewhat similar. I am not familiar 
with that market. 

We have no free alcoholic beverages. We have high-density seating 
on our aircraft, and we have a general policy of no discounting of 
our fares. We do not have military fares or excureion fares and such 
like that. The only discount fares are for children under the age of 
12, and that is it. 

I think that factor, and then our ability to generate passengers with 
a friendly type of service, which is, the more passengers, the more 
you can hold down your costs to the extent of being able to spread 
them over more passengers and so on. 

Senator Kennedy. Do you think it is completely coincidental, that 
even the certified carriers operating in competition with you in the 
intrastate market, charge about close to half of what the CAB formula 
is and just about what yours is? They do that in California and in 
Texas, hut they do not do it in other parts of the countrv. Why do you 
think they do that ? 

Mr. GusKE. I really could not speculate on other parts of the coun- 
try. As far as the State of California is concerned, the fares are regu- 
lated by the Public Utilities Commission and at this point they have 
designated PSA as the most efficient fare setting carrier in the State, 
and that has been their policy that whatever fares they authorize for 
PSA they will also grant to CAB carriers. Since they do regulate the 
fares, that has a controlling interest to an extent. 

Senator Kennedy. Do you think competition has anything to do 
with these lower fares? 

Mr. GusKE. Again, I cannot speak for those carriers, but I think 
that would be a definite consideration of theirs in trying to meet 
competition. 

Senator Kennedy. AVhat you are saying then is that you provide 
more seats in the plane and no food or beverages. Besides the courteous 
services that you extend, you are able to charge less for the miles that 
will be carried, and that this concept or idea has been endorsed by the 
people traveling your airline. 

Mr. GusKE. Yes, sir. 

possible EXPANSION BY PSA OUTSIDE CALIFORNIA 

Senator Kennedy. Would you like to fly outside of California ? 

Mr. GusKE. Yes, we would. We currentlv have pretty much been 
serving the major markets in California. There is not much left for 
us to expand into. As far as our future goes, we would be very inter- 
ested in flying outside the State. 



446 

Senator Kennedy. Why do you not ? 

Mr. GusKE. We have no application on file currently with the Civil 
Aeronautics Board, which may have jurisdiction in that matter, and 
we are not certificated bv the Civil Aeronautics Board at this point. 

Senator Kennedy. If you would like to fly outside California, what 
are the reasons you are not making application to do so ? 

Mr. GusKE. Well, we have not completed the necessary studies and 
so forth, which would be a prerequisite to filing applications or seeking 
additional routes. 

Senator Kennedy. Has there ever been a cost study done in an effort 
to find out why you provide services more cheaply thrai we do in the 
East? 

INIr. Guske. Not that I am aware of. 

Senator Kennedy. You are not familiar with the CAB study of 
1966? 

Mr. Guske. I am not. 

Senator Kennedy. Do you think customers prefer the no-frills serv- 
ice you provide for short flights more than the C AB-type of service ? 

Mr. Guske. Well, all I can say is that our passengers appear to 
accept our services and they come back, and we have shown over the 
years considerable growth "in our passenger total, so we believe our 
service is very well accepted. 

AIR CALIFORNIA 

Senator Kennedy. Mr. Clifford could you tell us a little about the 
situation in California ? 

INIr. Clifford. Senator, our situation is slightly different from 
PSA's. Ours is a California carrier, and have grown extremely fast. 
We carried 1.4 million customers in 1974. We have been in business 
since 1967. 

Our primary entry into the business was not in a competitive nature 
rather than new services that our people felt were necessary in survey- 
ing the markets Avithin California. 

So our fares are slightly higher than PSA's. Our average fare is 6.4 
cents a mile. Twelve of our 19 markets are in fact noncompetitive in 
nature, if you will, having started from markets that were not previ- 
ously served. 

We compete in five markets, and the fares that we cliarge are com- 
parable to the other scheduled carriers in those markets, primarily, 
because the Public Utilities Commission grants fares throughout the 
State of California on all intrastate routes. 

Senator Kennedy. What do you charge to fly from Orange County 
to San Francisco, or San Diego to Oakland ? 

]Mr. Clifford. $24.30, Senator. 

Senator Kennedy. And the flight from Boston to Washington is just 
about as far, is it not ? 

Mr. Clifford. I am not sure. 

Senator Kennedy. How many miles is it ? 

Mr. Clifford. From Orange County to San Francisco it is 344 miles. 

CX)NTRAST between AIR CALIFORNIA'S FARES AND CAB FARES 

Senator Kennedy. Boston to Washington is 399, and it costs almost 
twice as much. How can you fly more cheaply ? 



447 

j\Ir. Clifford. Well. I believe there are three basic reasons why Air 
California flies more cheaply. One, Ave are blessed in California with 
some weather circumstances and conditions that favor us, and having 
been an east coast operator, I am aware of the weather problems that 
are involved and would require higher fares. 

We are a younger airline, and our employees — although we pay 

standard rates, if you will 

Senator Kennedy. Do you know that the Boston-Washington route 
completes 98.2 perceiit of their flights ? 
Mr. Clifford. We complete 99.8. 

Senator Kennedy. Is there much difference between 98.2 and 99.8 
percent in terms of real cost savings ? 

Mr. Clifford. I would not have a judgment, Senator. We fly higher 
load factors. Our break-even load factor is at this point 65 percent. So 
we gear our fares for what we believe we can attain in load factor, and 
have been successful in that degree. 

Senator Kennedy. In other words, you feel that by charging the 
loAver prices, you can get more people on a flight and make a profit on 
that basis ? 

Mr. Clifford. Yes, sir. 

Senator Kennp:dy. Has that been your experience ? 
INIr. Clifford. Yes, sir, we try to gage our prices to a break-even 
load factor that is, in fact, attainable. 
Senator Kennedy What type of planes does PSA fly ? 
Mr. Clifford. Boeing 737's. 

Senator Kennedy. How many seats do you have in the plane ? 
Mr. Clifford. We have the same number of seats as the Hawaiian 
carriers. I believe more seats than the 737 domestic operators. 

Senator Kennedy. Do you think you could provide the same sort of 
inexpensive service outside of California ? 
Mr. Clifford. Yes, sir. 
Senator Kennedy. Would you like to do so ? 
Mr. Clifford. Yes, sir. 

We have no current applications. We were applicants in the Pacific- 
Xorthwest case some years ago. That has been our only entry into 
trying to fly interstate. 

Senator Kennedy. What happened in that case ? 
Mr. Clifford. We were not a successful applicant. 
Senator Kennedy. Do you know why ? 

Mr. Clifford. Not precisely, but t4iere Avere public hearings, and the 
discussions AA'ere made Avithout us being successful. 

Senator Kennedy. If you Avould like to serA'e other places, Avhat 
i-eally stops you ? 

Mr. Clifford. An analysis on our part as to the potential success of 
application and ability to serve in a precise market. 

Senator Kennedy. \Vould you elaborate a little on that? 
Mr. Clifford. Well, prior to application into any ncAV market Ave 
AA-ould do an analysis Avith the competiti\'e services that were then 
uA-ailable and Ave Avould apply only if, in our judgment, AA-e saw a real 
need and requirenient for additional services Avithin the route. 

We do not consider ourseh-es a cutrate airline, and it Avould not be 
our policy and philosophy to look at a route and try to steal passengers, 
if you Avill, from another carrier, but rather Ave AAOuld app>ly for the 



448 

route, if in our judgment, additional customers were potentially avail- 
able in that route. 

Senator Kennedy. I understand that the CAB says that the Cali- 
fornia routes are cheaper because one of the reasons is they are denser, 
and they have more passengers. There are about 2 million passengers 
flying between Boston and Washington each year, one way. How many 
passengers fly between Orange County and San Francisco ? 

Mr. Clifford. I believe a million — I think I have a figure— Orange 
County to San Francisco is 321,000 customers in 1973. Orange County 
to San Jose were 276,000, approximately. Orange County 

Senator Kennedy. At least with regards to the issue of the denser 
being cheapei', the Boston-Washington route carrying 2 million versus 
Orange County to San Francisco or San Jose with approximately 
300.000, that does not seem to be a substantial issue. 

Likewise, the 98.2 percent versus 99.8 percent flight completions 
seems to be a very narrow variable. What are the other considerations ? 

Mr. Clifford. Senator, I am not sure whether the completion factor 
really tells the whole story on the weather as a factor. There are delays 
enroute because of dense traffic, and long holds, and so on, that cer- 
tainly would be a cost factor in this regard. 

I am not sure what services are offered in the eai-n sector with regard 
to food service and so on. 

CAB denial of authority FOR INTRASTATE CARRIERS TO 
INTERLINE WITH CAB CARRIERS 

Senator Kennedy. If you want to fly from Boston to San Francisco 
to Orange County, could you buy a ticket in Boston to do that ? 

Mr. Clifford. No, sir; you cannot. We would like to interline bag- 
gage and interline passengers for truly intrastate operations on a break 
of your trip, if you will, if you were planning on spending li/^ days in 
San Francisco, and traveling to Orange County. We have applied for 
such services and ai-e not able to oft'er that. 

Senator Kennedy. Why have you not been able to get it ? 

Mr. Clifford. Well, there is the question of inter-- versus intra-state 
carriage, common carriage of customers. 

Senator Kennedy. Well, what happened to the applications? 

Mr. Clifford. The application was denied. 

Senator Kennedy. By whom ? 

Mr. Clifford. By the Civil Aeronautics Board. 

Senator Kennedy. For what reasons? 

Mr. Clifford. I am really not familiar witli that portion of the case, 
Senator. 

Senator Kennedy. You mentioned a little earlier that you would 
not want to enter a market at a cutrate to get passengers who already 
fly on another line. Is this the usual businessman's attitude toward 
competition ? 

Mr. Clifford. Xo, but it is a very straightforward attitude of 
making sure thei-e is enough market to make the load factor that is 
necessary in order to flv, a practical, attainable load factor. 

Senator Kennedy. What would happen otherwise ? 

Ml-. Clifford. Well, if we needed 65 percent to break even, and we 
got 55 percent we would lose, and we liave no place to go except as a 
lost venture. Of course, we want to avoid that prospect. 



449 

Senator Kexxedy. But then yon wonld not be reluctant to enter this 
market if you thought you could maintain a 65 percent load factor? 

Mr. Clifp^ord. No, sir. 

Senator Kennedy. Would you enter it at the cutrate ? 

Mr. Clifford. Yes, sir. 

Senator Kennedy. Thank you very much. I appreciate your coming. 

Mr. Clifford. Thank you. 

[The prepared statements of Lawrence Guske and Kobert Cliflford 
follow :] 

Prepared Statement of Lawrence A. Guske, Assistant Controller, 
Pacific Southwest Airlines 

We understand the focus of today's session to be on costs and fares in rela- 
tively short-haul, dense airline passenger markets. We hope that PSA's par- 
ticipation will assist the subcommittee in pursuing its interest in this important 
area. 

PSA commenced scheduled airline service on May 6, 1949, between San Diego 
and Oakland via Hollywood-Burbank, utilizing one leased DC-3 aircraft. At 
present, PSA provides single-plane service in 32 airport pairs using three Boeing 
737-200 aircraft with 11.5 seat«, twenty Boeing 727-200 aircraft with 159 seats, 
one Boeing 727-100 with 128 seats and two Lockheed 1011 aircraft with 297 
seats. 

In expanding and developing from 1949 to the present, PSA has consistently 
sought to provide good air transportation service at the lowest possible fares. 
PSA believes that the air passenger market is price elastic. In addition to 
pioneering in the area of fares, PSA has concentrated much attention on develop- 
ment of traffic at the California satellite airports of Burbank, Oakland, San 
Jose, Ontario and Long Beach. Without the satellite operations, airport limita- 
tions and congestion would have posed serious constraints to the expansion of 
PSA's low fare service for the traveling public. 

While we know that low fares increase traffic, PSA has not been able to 
isolate and relate particular traffic increases to particular fare offerings. Ex- 
amples of market stimulation which can be attributed in part to PSA's lower 
fares are as follows : 

1. In 1965, Pacific Airlines, the only carrier providing single-plane service 
between Los Angeles and San Jose, carried 56,000 pasengers in that market. 
In May 1966, PSA commenced lower-fare service between Los Angeles and 
San Jose and for calendar year 1967, PSA carried 556,919 passengers for 
a two-year increase of nearly 1,000 iiercent. 

2. In 196(), only Western and United provided jet service between Los 
Angeles and Sacramento. In February 1967, PSA entered the market with 
a fare level approximately 25 percent below the existing fares. In 1967, 
passenger traffic over the route doubled, and Western and United actually 
carried more passengers than in 1966, despite the competition from PSA. 

PSA has historically exercised tight, austere controls over its costs. Four 
important areas where this has been done are : 

1. Overhead. PSA employs tight expense controls and efficient flight and 
ground crew practices. It has only five top corporate officers. 

2. Basic transportation service. PSA serves no food or free alcoholic 
beverages. 

3. High seating density. PSA's single-class configurations of the aircraft 
it operates are about 20 percent denser than those of interstate airlines. 

4. No discounts. PSA has offered half -fa re for children 2 to 12, but almost 
no other discounts. As a result, PSA's system fare dilution is only 2 percent. 

Tight cost control is still effective, we believe, to keep PSA's total costs below 
•those of other carriers on a passenger-mile basis, but PSA's costs are rising, in 
common with those of the entire airline industry, at an alarming rate. PSA's 
fuel costs are among the highest in the nation. From 14.4 cents per gallon at 
the end of 1973. PSA's average price for a gallon of fuel soared to 31.2 cents as 
of November 1974, and we anticipate a cost of 46 cents by the end of 1975 under 
the Administration's crude oil program. At such a level, 1975 fuel costs would 
amount to $47 million or 29.4 percent of PSA's total costs of airline operation, 
compared with $14,396,000 and 14 percent of expenses in 1973. Although fuel 



450 

prices are the leading factor in PSA's cost increases, PSA is also subject to the 
same inflationary pressures that afflict the entire nation over the entire range 
of its costs. 

PSA is subject to competition by interstate carriers over most of its system. 
PSA's primary competitor, United, has consistently matched PSA's fares. Until 
very recently, most other competing airlines published fares equal to PSA 
over route segments served in common. In past route and fare proceedings before 
the California Public Utilities Commission, these competing airlines have intro- 
duced evidence which indicated that they were incurring substantial losses charg- 
ing PSA's fares for their intra-Calif ornia services. 

PSA's services have over the years yielded a profit, but a return on investment 
of only 1.06 percent for 1973 — an inadequate return even under California PUC 
ratemaking standards. Substandard profitability for PSA along with losses for 
all competing carriers are, unfortunately, consistent with the California PUC's 
ratemaking approach. The California PUC has declared PSA to be the rate- 
making carrier in the principal California intrastate air transportation markets, 
on the ground that PSA is most efficient. As a result, once rate increases are 
granted to PSA after a full hearing, such increases are perfunctorily awarded 
to the other air carriers on request, on the basis of PSA's relatively low-unit 
costs rather than market or industry costs or the particular other carrier's costs. 
The California PUC has used a number of other ratemaking techniques which 
we at PSA have opposed as unsound and as calculated to prevent PSA, in spite 
of its austere cost management and high eflSciency, from earning a fair return 
on investment. As a result of such nearsighted ratemaking techniques, PSA's 
public shareholders have received no cash dividends from 1970 to present. 

PSA's present fare between Los Angeles and San Francisco before tax is $19.21, 
or 5.68 cents per mile. We have pending with the California PUC a request for 
increase to cover general cost increases, not fuel, which would increase the fare 
to $21.30, or 6.30 cents per mile. 

The fact that we are asking the PUC for a fare of 6.30 cents per mile does not 
mean that PSA has stopped being a low-fare carrier. We still are dedicated to the 
lowest compensatory fares. While we are asking for 0.30 cents, the Eastern air- 
shuttle fares between New York, on the one hand, and Boston and Washington 
on the other, are 14.02 cents and 12.98 cents per mile respectively, and the lowest 
regular Boston-Washington fare is 10.44 cents per mile. 

The most recent development in the California intrastate fare arena is that 
several interstate carriers now offer lower fares than PSA in principal markets. 
This came about in 1974, when PSA was forced to raise fares on all its routes to 
compensate for the increased price of jet fuel. Although in the past, the interstate 
carriers have normally raised their intra-California fares to match those of PSA, 
some carriers did not do so in this instance. As a result. Delta offers the lowest 
fare between Los Angeles and San Diego ; Hughes Airwest the lowest between 
Los Angeles and San Francisco, and Continental is offering a lower fare between 
Burbank and San Jose. 

PSA continues as a proponent of low airline fares. Today, however, PSA is 
faced with an unprecedented onslaught of deterrents to continuation and expan- 
sion of the availability to the public of such fares. Rampant inflation led by fuel 
prices unimaginable two years ago, a slumping economy, an inadequately re- 
sponsive state regulatory agency, and competitors who for the first time are 
using fares as an offensive weai)on against PSA, have all converged to challenge 
the continuation of PSA's traditional role as the low fare, intrastate airline. 
The.se are matters PSA feels should be kept in mind both in comparing intra- 
California airline markets and fares with markets and fares elsewhere in the 
country, and in devi.sing solutions to the administrative problems faced by the 
carriers and the traveling public. 

Prepared Statement of Robert W. Clifford, President, Air California 

My name is Robert W. Clifford. I am the president of Air California, and we are 
pleased to appear before you. Air California is a scheduled air carrier operating 
within the State of California under a certificate of convenience and necessity 
issued by the Public Utilities Commission, the agency which regulates the public 
utilities and transportation services within Calf ornia. We provide passenger and 
airfreight services to eight California cities constituting 19 city-pair markets. 
Air California was incorporated in 1966 to provide initial air .service between 
Orange County and the San Francisco bay area. The company has grown from 



451 

an airline operating two Lockheed Electras (Lr-188) and transporting 293.000 
annual passengers in 1967 to the operation of seven Boeing 737-115 passenger 
jets and one Electra serving 1.4 million customers in 1974. 

The corporate mission of the company is to provide low-cost commuter-type air 
.service in markets that do not have required service or receive poor and inade- 
quate .service from interstate airlines. Of the 19 markets presently served by Air 
California, 12 received first time service from Air California, 2 received better 
service, and 5 received competitive service. The State of California is to be 
admired for its foresight in recognizing the need for intrastate air transportation 
and enacting legislation which established an orderly control mechanism for 
route authorities, tariffs, and financial guidelines. California, if it were a nation, 
would indeed be the eighth largest economic producer (gross national/state 
product) in the world, so it naturally follows that communication and transporta- 
tion are vital and dramatically necessary in an ever-changing way. 

The Public Utilities Commission has been responsive in the recognition of new 
service route needs, and has been able to meet such needs through tlie avail- 
ability of two rather large, viable, and competent transportation companies. Air 
California and PSA. The existence and growth of our companies is adequate and 
strong testimony as to the need for services of the type offered and the good judg- 
ment of our regulators. Tliere is no question in my mind that services of the 
type we provide which are quickly responsive to new market needs and priced in 
innovative packages which develop markets with maximum speed would not be 
possible in the framework of present interstate certification processes. 

Our.s is an operation in which fares are priced at minimum levels which can be 
realistically supported by expected load factors. We. like all other air carriers, 
are currently caught in a pinch because of fuel prices. Although the Commission 
has been attentive to the fuel price increase, the additional 19 percent in our fares 
has somewhat depressed trafBc. In comparison to other airlines, intrastate and 
interstate, our fares are in some instances lower and in some instances slightly 
higher. Our fares are lower than Hughes Airwest, however slightly higher than 
Continental, Western and PSA in our Ontario to Sacramento service. In order to 
encourage discretionary travel. Air California offers and is highly supportive of 
reduced rate incentives. We offer a discounted family plan, military fare, group 
rates, and a standby E-z fare (20 percent reduction on certain selected low 
volume flights). 

Our operating costs are somewhat lower than the interstate carriers since we 
are relatively a new carrier and our seniority rates are not as mature as others. 
The price of our supplies, including fuel, spare parts, miscellaneous equipment, 
oflSce supplies, etc., are probably comparable to those of other air carriers. 

We don't look upon ourselves as a cutrate airline for, in fact, we charge fares 
that permit a fair level of profitability potential and offer services which are 
comparable to those of any air carrier operating .short segment flights .similar 
to ours. We require a relatively high load factor for breakeven and we maintain 
these load factors by effective scheduling of individual flights on daily schedules 
which match peak demand. That is, we schedule more trips on days which pro- 
vide higher traffic i>otential (Fridays, holidays, etc.), and contract .schedules on 
days of expected minimum activity, i.e., Saturdays, day after holiday, etc. We are 
able to control capacity through the use of our modern, computerized reserva- 
tion .system which utilizes the data bank of Continental Air Lines. 

Our type of operation, which is based npon high frequency on short flight seg- 
ments, requires close adherence to published flight schedules. The maximum 
possible completion of our scheduled trips on time is a constant concern. Our 
completion factor for the year 1974 was outstanding — 99.8 percent with 89.2 per- 
cent of the flights operating on time (within 15 minutes). 

Although our intrastate customers enjoy a high level of service proficiency, 
we are not able to offer interline ticketing or interline baggage exchange. This 
deficiency is brought about by the possibility of our being con.sidered an inter- 
state carrier if such service was offered. On two occasions we have requested 
Civil Aeronautics Board is.suance of an exemption to permit interlining of 
baggage and tickets with stated restrictions which would negate the possibility 
of straight-through, direct interstate commerce. We understand the technical 
regulatory problems involved in the consideration of this matter; however, we 
believe that the traveling public would be best served through the adoption of a 
plan which would offer our services for trips which were not, in fact, interstate 
in nature. 

Transportation services, in order to be effective and of value, must meet the 
needs of the people they serve. These needs are not static, but rather ever-chang- 



452 

ing. We believe the ingenuity and flexibility brought to the air transportation 
industry by carriers such as Air California should be recognized as beneficial and 
that the continued expansion of their services should be encouraged. 

We are proud to be a member of an industry which provides services which 
are so vital to our national economy and well-being. 

We thank you again for the opportunity to appear before you and would be 
pleased to answer any questions which would be of benefit in your consideration 
of these matters. 

Senator Kennedy. The next testimony will be from Dr. William A. 
Jordan, professor of managerial economics at York University, To- 
ronto, Canada ; and Dr. John R. Summerfield, president of Summer- 
field Associates, a transportation research and consulting firm. 

During the past 27 years, Dr. Jordan has worked for Scandinavian 
Airlines System, Air France, Seaboard World Airlines, and Western 
Airlines. Dr. Jordan has consulted on airline and airport matters. He 
has taught graduate courses in economics and government regulation 
at Columbia, Stanford, Northwestern, U.S. International, and York 
University, and he is a colonel in the Air Force Reserve. Dr. Jordan 
is well known for his publications on airline regulation and capacity 
agreements. 

Dr. Summerfield has directed transportation research at the RAND 
Corp. and has served as corporate economist and director of economic 
studies at Douglas Aircraft Co. and as vice president of economic 
planning at Western Airlines and Pan American World Airways. 

Dr. Jordan, do you want to start, please '^. 

STATEMENTS OF DR. WILLIAM A. JORDAN, PROFESSOR OF MAN- 
AGERIAL ECONOMICS, YORK UNIVERSITY AND DR. JOHN R. 
SUMMERFIELD, PRESIDENT, SUMMERFIELD ASSOCIATES 

Dr. Jordan. Thank you. 

My presentation today is based on research for the past 10 years on 
the effects of CAB regulation. Rather than attempt a theoretical study, 
I decided the best way to do this would be to compare the actual per- 
formance of CAB-regulated airlines with the benchmark of the actual 
performance of those airlines not regulated by the CAB. 

The nonregulated airlines are primarily the intrastate airlines, but 
not entirely. This study covers the post-World War II period with 
emphasis on the years since 1949. 

CONTROL OF INDUSTRY ENTRY IS NECESSARY FOR REGULATION 

One conclusion of this study is that a necessary condition for effec- 
tive regulation is the control of entry. It is necessary to control entry 
to prevent rival airlines from entering should regulation cause fares 
to rise above average costs, and it is necessary to prevent entry in case 
costs themselves rise above the minimum average achievable. 

The CAB has effectively closed entry into U.S. interstate airline 
operations. There have been 16 to 10 trunk carriers, decreasing in num- 
bers from 1938 to the present time, with Pan Am being another large 
carrier, but primarily international. 

There have been 21 to 8 local service carriers from 1946 to 1950 
to the present time with Air New England being the latest addition 
after a 25-year hiatus in the authorization of such carriers. 



453 

In 1973, tlie total operating revenues of all U.S. airlines operating 
large aircraft were approximately $13 billion. Of this $13 billion, the 
10 trunks plus Pan American counted for 81.2 percent, and each of 
these trunk carriers served between 37 and 111 cities with 60 to 390 
aircraft each. Local service carrier share was 8.2 percent of the $13 
billion, and they served 50 to 9,5 cities per carrier with 33 to 133 air- 
craft. So these two CAB-regulated airline groups together have 
accounted for 92.4 percent of the $13 billion or a total of roughly $12 
billion of this $13 billion. 

All other airlines in the United States accounted for the remaining 
7.6 percent or roughly $1 billion. 

DISECOXOMIES OF SCALE: 100 TO 2 00 AIRLINES WITPIOUT REGULATION 

The conclusions of my study indicate that without CAB regula- 
tion there would be between 100 to 200 or more airlines in the United 
States operating large aircraft in scheduled service, and figure No. 
1, which is the one in the corner there, summarizes this. Twenty CAB- 
regulated trunk and local service carriers plus Pan Am as opposed to 
200 or more nonregulated airlines without the CAB. 

Senator Kennedy. How can you make a statement like that when 
we have just heard from two operators, one of whom felt that unless 
you were very sure that you would be able to build up G5-per'cent 
passenger capacity, that you may very well go out of business? Here 
we have 20 with regulation. You talk about 100 to 200. How do you 
draw that conclusion? Would it not oversaturate the market and 
cause finnncial turmoil and disaster among carriers? 

Dr. Jordan. We shoidd recognize that the nonregulated airlines 
have all been smaller lines. 

Senator Kennedy. Does that mean you go on a small line from 
Boston to Washington? 

Dr. Jordan. Yes, it would operate from 3 to 4 to 6 planes as opposed 
to 40 to 60 to 400 ail-planes. The point is there is enough traffic to sup- 
port small airlines with three or four aircraft and make them liable. 
They will be able to achieve all the possible efficiencies with that small 
operation, and such small airlines have been viable in the California 
and Texas situation without regulation. 

What I am saying is that without regulation which causes airlines 
to be large, you would have a large number of small airlines, each one 
specializing in a certain kind of operation. 

Senator Kennedy. Wliy does regulation require that the airlines 
be large? 

Dr. Jordan. Because, given entry control, the trunks have been 
limited to those certified in 1938 and the local service carriers limited 
to those certificated between 1946 and 1950. and these ar-e the only air- 
lines that have been allowed to provide interstate seivice. As the city- 
Dairs haA'e expanded and total traffic has expanded, these airlines have 
been required to expand. Also, when an airline makes a major mistake, 
it is forced to merge like the Capital-United merger of some years 
back so with no entry the size of the remaining airlines increases. 
Closed entry is the cause of large airlines. 

Senator Kennedy. If you had a greater number of airlines sictually 
required to go into a merger situation, as you pointed out, why does 



454 

that not run contrary to your thesis that you would have 100 to 200, 
if the experience has'^been in recent times that the total numbers have 
actually reduced? Why do you not believe if you start out with 100, 
that it will finally contract down to the 20 or so even without the 
regulation ? 

Dr. Jordan. Because without regulation we find that airlines can be 
efficient, low-cost carriers with small numbers of aircraft, and there- 
fore, as airlines become larger they become less efficient, and we will 
lose business to the small airlines that will enter. 

I should mention that one very striking comparison — we have had 
merger acquisitions in CAB regulation. There has not been a single 
merger application in a nonregulated environment. 

Senator Kennedy. Is it more efficient to have a smaller number of 
planes and more airlines, or a larger number of planes and fewer air- 
lines? It seems to me, for example, in the terms of trucks supplying 
the planes with gasoline or handling baggage that you would have 
regulated lines. Let us take, for example, the case of the trucks supply- 
ing planes with gasoline or handling baggage transfer. On the one 
hand, you would have the larger regulated airlines using one gasoline 
truck to refuel planes all day, while, on the other, you would have the 
smaller airlines using one gasoline truck to refuel four or five planes. 

Dr. Jordan. In response to that question, the gasoline truck is 
usually owned by the fuel company. It supplies airlines and it does 
not have to supply one airline. 

Senator Kennedy. Is that true of all these other services? 

Dr. Jordan. Yes ; in terms of overall cost 

REGULATED FARES ARE 4 0-7 PERCENT HIGHER THAN UNREGULATED 

Senator Kennedy. Let's continue with your other testimony. 

Dr. Jordan. Fine. 

Given closed entry, we find what are some results of CAB regula- 
tion. One clear result has been higher fares. I have shown in figure 2, 
a comparison of fares Avith regulation as opposed to fares without 
regulation. Those in red are with regulation. I have broken them down 
into short-haul, which I have defined as to 250 miles, more or less; 
medium-haul from 251 to 1,000 miles; and long-haul over 1,000 miles. 
I have shown the Boston-New York, Boston-Washington, and Boston- 
Los Angeles fares as examples for these mileage categories. 

In the case of a short-haul, the California analysis implies that the 
fares with regulation are between 40-70 percent higher than without 
regulation, and this is the basis for the difference between $25.93, which 
is the actual regulated fare between Boston and New York, and the 
$15 fare without regulation. 

In terms of medium-haul, we find that the fare differences are 
around 75 to 100 percent, w^hich is a difference of $41.67 with regula- 
tion, versus $21 without regulation for the Boston-Washington fare. 

Finally, for the long-haul, we find fares roughly 100 percent larger 
with regulation, whicTi gives you the $187.04, the actual fare today, 
as opposed to without regulation, approximately $95. 

Now, these large differences are in city fares that have relatively 
high traffic density, being defined as over 100,000 passengers per year. 
The same analysis applies for small city-pairs with the fare differences 



455 

not as lai'^e, but witli the noiu'e^ulated fares still lower than regu- 
lated fares. This analysis is based upon California, but supported by 
similar analyses in the Texas case, in the military airlift case where 
we had re^ilation by the CAB, imposed in 1960, and it is supported 
by a comparison with reg:ulated fares in Canada, between Montreal 
and Toronto. We find with regulation in Canada, their fares are high, 
roughly the same as regulated fares in the United States. 

So, without regulation fares are lower. With regulation, fares are 
higher. 

Senator Kennedy. Why ? 

REGULATION INCREASES COSTS SERVICE COMPETITION 

Dr. Jordan. Well, that is the next question. If prices are so high 
why are there not large profits, for example. 

Well, it appears that regulation also serves to increase costs of opera- 
tion. Fares go up, costs also go up. 

This is a major area of work. I have identified three important 
sources of these difPerences in cost. One source is decreased aircraft 
utilization. The second source is lack of specialization among the regu- 
lated airlines. The third source is the purchase of more and more in- 
puts at higher prices, that is labor and aircraft, for example. 

First, the matter about aircraft utilization. CAB regulation for the 
last 86 years has been asymmetric, it has been complete in entry and 
exit, it has been very effective in price, but it has been ineffective and 
almost nonexistent in the matter of service quality. Furthermore, the 
CAB has failed to allocate specific market shares to each airline. In- 
stead, it has certified two or more airlines in many city-pairs where- 
upon it has said all right, fellows, your prices are fixed but you are in 
this city-pair, go ahead and get what you can get. The airlines' re- 
sponse has been well, we are controlled pricewase but not service 
qualitywise, let's have superior service quality. The way to do that is 
to operate brandnew airplanes at high-schedule frequencies. They 
have done this. Furthermore, they put fewer seats in their aircraft, 
and even given fewer seats, they have operated enough frequencies 
to give theui lower numbers of passengers per flight, low-load factors. 

Now, I have on figure No. 3, which I will refer to very shortly, 
an explanation of what this means in terms of cost. Looking only at 
aircraft costs, just the aircraft from the viewpoint of the airline costs, 
if we increased the load factor from the current 56-percent level, 
Avhicli is what it was last year, 1974. to 70 percent, a 25-percent in- 
crease, and by the way, the 70 percent load factor is the lowest load 
factor that existed between 1955 and 1964 in California. Quite feasibly, 
it has occurred regularly without regulation. If we have this kind of 
load factor in all U.S. operations we would decrease the fleet size by 
20 percent, 25 percent increase in load factor, 20 percent decrease iii 
passenger flights. 

^ Such a decrease in the fleet would reduce the value of the aircraft 
fleet from the present $12.25 billion, undepreciated value, for the 
trunk airlines, to about $9.8 billion. 

A second factor would be if we increased the average life of each 
aircraft by 25 percent, going from sav 14 years, which is an average 
allowance for present CAB airlines,' to i7i/> years, you would de- 



456 

crease the average annual replacement costs from $875 million to 
$560 million per year, or a saving of $315 million per year, roughly 
$1.90 per passenger enplanement. Now, that is just one cost factor 
which results in an appreciable decrease in costs. 

Wlien you combine this with a decrease in operating costs associ- 
ated with a decrease in the number of flights by 20 percent, you can 
see very quickly you get into very large differences in cost. 

A second source of the reason that the intrastate carriers are low- 
cost is their ability to obtain a higher output per employee. Now, they 
are all small, the intrastate airlines. They have usually one kind of 
aircraft. Each provides a very specialized service and they find that 
the result of this has been employee specialization which has resulted 
in large outputs per employee. 

If you look at figure No. 4 behind you. Senator, these are fig- 
ures for 1965, which is not the most favorable year for comparison, 
because PSA had better years, but it is a good average year, the output 
per employee of the average trunk carriers measured on available 
seat-miles per employee was 603,000 available seat-miles per employee. 
Compared to PSA's 1,270,000 available seat-miles. 

Looking at the next two columns, revenue-passenger miles, the aver- 
age trunk carrier had 333,000 revenue-passenger miles, PSA had 
804,000. It is a difference of 141 percent. Senator. 

It it only fair to point out these figures are biased against the trunk 
carriers. They do not include cargo production. Yet the total number 
of employees does include cargo. 

The third series of figures attempts to correct this bias. They pro- 
vide figures biased against PSA. These are revenue figures. In 1965, 
the average yield per revenue-passenger mile for PSA was 3.85 cents, 
while trunk yield was 5.93 cents, roughly 50 percent higher. So it took 
PSA half again as many passengers to get the same revenues. 

PSA had revenues per employee of $32,500 versus $22,200 for the 
average trunk. Even with the figures biased against PSA, it is still 
superior. 

Taking these three comparisons and making adjustments, approxi- 
mating how it works out overall, I would estimate that PSA is roughly 
100 percent more productive per employee than the average trunk air- 
line. That is an appreciable difference. This is an important cause of 
the lower costs of the intrastate carriers. 

The final point is the matter of increased input prices. CAB has 
closed entry. Therefore, if any of the airlines buy their inputs from 
organizations which have monopoly power, then some of their monop- 
oly gains, some of the airlines' monopoly gains can be captured by their 
input suppliers. We find evidence of this in terms of the labor share 
per total cost. 

Here we find in figure No. 5 that for 1973 the average trunk carrier 
had 44.3 percent of its total costs accounted for by labor costs, while 
three intrastate carriers in 1974, that is, for 10 or 11 months in 1974, 
had an average total cost of 26.1 to 34.0 percent — much lower than 
the trunk or local service carriers. This is evidence that there are higher 
costs, higher prices paid to inputs by the regulated airlines. 

In terms of your aircraft, the other major input into airline opera- 
tions which the airlines must purchase, you have a situation where the 
manufacturers are encouraged to produce, to modify their aircraft and 



457 

give variations. A number of modifications are bought by tlie airlines 
so that manufacturers make a large number of different' kinds of air- 
craft, thereby increasing production costs and aircraft prices. The 
demand is great by the airlines because they must have the most mod- 
ern aircraft to provide high-quality service. ' 

Those are three major sources of differences in airline costs with 
regulation as opposed to without regulation. 

TOTAL COST OF REGULATIOX 

Senator Kennedy. Have you figured out how much that would save ? 

Dr. Jordan. A rough estimate. Senator for the trunk carriers in 
1973, total operating costs were about $10.6 billion. It is my best esti- 
mate that without the regulation it would be reduced down'to approx- 
imately $7 billion, a saving roughly of $3.5 billion, an appreciable 
difference. 

Senator Kennedy. Do you figure, that based upon these variables, 
$31/^ billion could be saved by consumers with deregulation? 

Dr. Jordan. Yes, that is correct. 

EFFECT OF COMPETITION ON SAFETY 

Senator Kennedy. What about safety ? How can we be sure that if 
we get these 100 to 200 airlines without regulation that we are not 
going to have people's lives endangered ? 

Dr. Jordan. Well, we turn again to the evidence. First of all, all 
airlines, whether interstate or trastate, are controlled by the Federal 
Aviation Agency, regardless of CAB regulation. So they have that 
same requirement for safety as controlled by the FAA. 

Second, within California there have been two fatal accidents, 
one a DC-3 in 1949, with a loss of nine lives, including the wife and 
son the owner of the airline, which was a painful experience for him. 
In 1964 there was a second crash, an airline operating out of Lake 
Tahoe, which is a very high altitude and a small airport, with a loss 
of 85 lives. In both cases the airlines went out of business, the second 
case because the FAA rescinded the operating license, but nevertheless 
they went out of business which gave the intrastate carriers the sus- 
picion that perhaps if they are unsafe they would not be around very 
long. So tliere is motivation to be safe in that very real sense. 

In terms of deaths per revenue-passenger miles, those two accidents, 
given the low-traffic base for the period from 1949 to 1965, give a 
relatively high average of number of deaths per 100,000 of revenue 
passenger miles. But if you extend those same number of fatalities into 
the present time, roughly 8 more years, it goes down to approximately 
that of the trunk carriers. So the evidence is not clear, based on those 
two crashes for the shorter time period, less safety, more fatalities per 
100,000 revenue-passenger miles. If you extend the period you find 
comparable safety. Again the key point is if you are unsafe, if you 
are small, you are going out of business, because there are very good 
substitutes available to take over your business. 

Senator Kennedy. That is a pretty tough test for 100 or 200 car- 
riers. I would think that people would want to know with 100 or 200 
carriers, which ones ave safe. They are on the market today and if they 
have a fatality they are out, but couldn't they come back under some 



458 

other name ? How wil] we be able to give the kind of assurances 
that would prevent this ? 

Dr. Jordan. I would say it is important for the FAA, who must 
check the management of every airline and its operating procedures, 
to be very careful about that. If the airline has a crash and the airline 
goes out of business because they are negligent, tlie FAA should be 
responsible to make sure those same j)eople did not go back into busi- 
ness, would suspect. 

Also, once you do have a crash in your operation it is harder to re- 
enter without regulation. 

UXFAIR COMPETITIOK (PREDATORY PRICING) 

Senator Kennedy. What about predatory pricing ? Would that not 
bring about a good deal of chaos for the consumer ? 

Dr. Jordan. Well, Senator, I have just finislied a study of predatory 
pricing and practices. The theoretical background provided by Pro- 
fessor McGee years ago said predatory pricing is rare because it is 
costly. You can do it easier by merging, buying them out. 

I had three cases where it was alleged, predatory cases. I tested 
those and found in two cases there was great doubt as to any predatory 
practices. In one case there may have been, but again not sure. This 
is consistent with the position that predatory practices are rare. I, 
therefore, suspect that with a large number of airlines you will have 
relatively little predatory practices. If you can get new" entry, why be a 
predator ? The guy goes out of business if you take him over ; other- 
wise, his assets remain and can be used for reentry. Predation is very, 
very costly and rare. 

PACIFIC SOUTHWEST AIRLINES— INCREASINGLY RP^GULATED 

Senator Kennedy. Have you had any practical experience in the 
airline industry ? 

Dr. Jordan. Yes. I started working with the airlines in December 
of 1947. My experience spans most of the post-war period. As you 
mentioned, I worked four airlines, most recently from 1960 to 1964 
for Western Air Lines in Los Angeles, and I worked as an airport 
consultant from the airport viewpoint, and of course, I have my mili- 
tary service with the Military Airlift Command. 

Senator Kennedy. After all of this has been said and done, could 
we not explain it that perhaps PSA is under California regulations 
and this is just sort of a specialized situation in California? 

Dr. Jordan. Well, California regulation is interesting. Senator. 
They are starting to change. Before 1965, there was little regulation. 
Open entry, no regulation of price decreases. Anybody could come in 
and offer their initial fares with no questions asked. 

Following 1965, the California Public ITtilities Commission was 
given jurisdiction, and they have perhaj^s since 1969 closed entry. 
It takes awhile for these adjustments to take j)lace. Things do not 
happen overnight. PSA is starting to act like a regulated airline. We 
find between 1969 and January 1975, this last fare increase, that their 
]5ercentage fare increase is very similar to the percentage increases of 
the airlines regulated by the CAB. 



459 

You notice on that figure Xo. 5, PSA of the three intrastate carriers 
has tlie highest labor share of total costs. It is getting out towards the 
level of total trunk carriers. 

My hypothesis is that 10 years from now when I do a restudy of 
the California situation that if the present PUC situation has Ijeen 
maintained we will be finding PSA and the others more like the CAB 
airlines. 

Senator Kennedy. Why is that ? 

Dr. Jordan. Because California regulation has become very similar 
to CAB regulation, different in procedure or different in its detail, 
but the economic results from fragmentary evidence since 1969 indi- 
cate that the cases are becoming very, very similar. Closed entry in 
California is very important. 

Senator Kennedy. Mr. Summerfield. 

Mr. Summerfield. Thank you. Senator. 

My testimony does not differ in fact very much from Dr. Jordon's. 
It is" a fact that costs are different. I present a different interpretation 
of why these costs are different. It is based on a study of the actual 
operating environments of the infra-California carriers versus the 
trunk and local service carriers. 

COSTS saved by PSA BECAUSE IT DOES NOT FLY INTERSTATE (INTERLINING, 
TICKETING, ACCOUNTING) 

To summarize briefly what is contained in a little more detail in 
my written testimony, a number of differences exist because of the 
fact that PSA and Air California are intrastate carriers operating in 
restricted geographical areas. In the first place, because they don't 
do any interline work, as Mi\ Clifford pointed out, the reservations 
clerks don't need to know anything about how to get from Santa Ana 
to Boston because they are not allowed to route you that way. This 
means you don't have to train them, a major saving in training costs. 
But the big saving is in the time they spend on the telephone when you 
call for a reservation. They simply' make point-to-point reservations. 
According to my estimates, the average length of call for reservations 
is at least three" times as long for a trunk carrier as for an intrastate 
carrier. This represents about a 3 to 1 difference in the manpower 
required to man the reservation system. 

A second way in which this carries over is in the ticketing. PSA 
uses a very simple cash register receipt as a ticket. They don't have 
to figure out what the fare is between Boston and iNIodesto, Calif., a 
market for which there may be no quoted fare. A carrier that writes 
interline tickets must add up fares through several routes to be sure 
they have the lowest fare. Again, there are substantial economies 
because intrastate carriers cannot do this. 

Senator Kennedy. If the agents did have interline training the same 
as other carriers, couldn't that mean that they would gain more rev- 
enues because they would get additional kinds of services? 

Mr. Summerfi?:ld. That is possible, that they would gain 
additional 

Senator Kennedy. Isn't it likely? Don't you suppose they would 
certainly get some? 



460 

As I understand, if you want to go from Boston to San Francisco 
to Los Angeles, and you want to fly that San Francisco to Los An- 
geles leg on PSA, which is cheaper, you can't get a ticket on it. 

Mr, SuMMERFiELD. You can if you wait till you get to San Francisco 
to buy the ticket. 

Senator Kennedy. That is the point. If people wanted to fly, and 
knew PSA was cheaper, wouldn't they take PSA ? And would not that 
help to offset additional training costs for reservation clerks? 

Mr. SuMMERFiELD. It might. It would expand the whole system. 
Senator, so they would end up having more airplanes and more flights. 
Whether the cost would go up proportionately or not, I do not know. 

Senator Kennedy. Maybe load capacity would change from 65 
percent full up to 75 percent. 

Mr. SuMMERFiELD. I dou't kuow, Senator. That is speculation. What 
I have tried to do is limit myself to the areas in which there are data 
to support the analyses. 

Revenue accounting is a third way in which this lack of interlining 
saA'es the intrastate carrier a good deal of money. 

Senator Kennedy. What is the cost for interlining, have you figured 
that out? 

Mr. SuMMERFiELD. ]\Iv estimate for those three functions for PSA, 
for reservations for ticketing and for revenue accounting, is on the 
order of $11 million a year difference for the size of operation that 
PSA now has. This is based on data on the cost per passenger of these 
services and some estimates based on my experience. 

Senator Kennedy. How much does that work out to per passenger ? 

Mr. SuMMERFiEiJ). A little under $2 a passenger. PSA said they 
carry about a little less than 61/0 million passengers a year. 

Senator Kennedy. So it is about $1.50. 

Mr. SUMMERFIELD. $1.50, $1.70. 

Senator Kennedy. Even with a $1.60 additional charge, it is difficult 
to explain, the sizable difference in the fare between PSA and the CAB- 
regulated airlines. 

INIr. SuMMERFiELD. That is right, but there are other factors, some 
of which have been mentioned, but let me try to put some on dollar 
amounts on some of these other factors, also. 

COST SAVED BY PSA BECAUSE IT DOES NOT SERVE FOOD 

They don't have food service. If food service were at the relatively 
simple level of local service carriers, in other words, and if they had 
longer routes on Avhich some food service was required or they felt it 
was necessary to give the kind of food service that, for example, local 
service carriers do, that might add another $3 million. That is based 
on 

Senator Kennedy. But, they don't have that, do they ? 

]Mr. SuMMERFiELD. Xo, they do not have the kind of route structure 
that operates over longer distances; typically they have about 1-hour 
flights. On 1-hour flights, liardly anybody serves food. 

If they had a longer loute structiire and operated like the trunk or 
local service carrier, then in all likelihood they would liave food service. 

One of tlie main ways they benefit from this is that, because they 
don't liave food service, thev don't need aallovs, and there is room for 



461 

additional seats. This provides them room for extra passengers on 
flights that woukl othei-wise be sokl out and not avaihible. 

Senator Kexnedy. From the consumer's point of view, there is no 
real problem with that, is tliere? If they want to give up lunch, for 
that hours ride either from Los Angeles to San Francisco, or, from 
Boston to Washington, can't they ? 

Mr. SuMMERFiELD. No, I am merely trying. Senator, to explain the 
differences in cost structure between two different types of operation, 
and trying to explain why these costs actually exist. It has really noth- 
ing to do with the regulatory process is what I am saying. The differ- 
ences result from the natui'e of the I'oute structure in some cases or the 
nature of the geograjihical confinement of the system. In fact, if you 
had 100 to 200 different airlines, as Dr. Jordan suggested, many of 
them would have these short segments and some of these differences 
would appear. 

INTERLINING 

One of the problems, however, with these self-contained units like 
PSA and Air California is that, if they existed for the whole country, 
it would be terribly difficult to get around because of the point you 
brought out a minute ago. You can't make a reservation — you can make 
a reservation if you mnke a long-distance telephone call. You can't get 
a ticket here. 

If we had many of these small intrastate operations the whole inte- 
grated system we depend on, not to get from here to Los Angeles or 
Washington, but from here to Podunk would fall apart. We would 
have a difficult time getting all these connecting services tied into the 
different carriers. 

Senator Kennedy. Is there any reason this couldn't be computerized 
in some kind of central agency ? As I understand, in less than a minute, 
a Chicago policeman can call in an automobile license plate and find 
out wlio owns it. 

INIr. SuMMERFiELD. That is correct. 

Senator Kennedy. Is it so difficult then to computerize ticket inter- 
lining? 

Mr. SuMMERFiELD. Of tile 58,000 city-pairs that are now served, 
many don't have fares quoted between them. For those with fares 
listed in the OAG there could be a retrieval process, though it might 
be expensive. Rut for the person who wants to go from here to Chicago, 
to Des ]Moines, and then down to Dallas and so on, the airlines have 
spent a lot of money trying to computerize this and they have found it 
really can't be economically done except for the relatively simple 
itineraries. 

Senator Kennedy. You mean everybody who is traveling from 
Boston to Washington is paying for compiiterized fare construction 
for the person flying from Fargo to Podunk, and if they are, we ought 
to know about it, shouldn't we ? We are already paying too much in 
terms of energy underwriting for other areas of the country, and now 
we find that when M-e go fi-om Boston to Washington Ave are paying 
for that integrated system as well. 

Mr. SuMMERFiELD. But that part is not in the computer because it 
was just too expensive to do it. It is really the very simple routings 
that are in the computerized systems of the airlines. If you want to 



462 

ask these questions of representatives who operate these computer 
systems 

Senator I^nnedy. Let me get back to another point, when you were 
talking about the route structure and about how it really wasn't the 
CAB, but it was tlie route structure that determined such considera- 
tions as food service. Isn't it really the CAB that develops those 
route structures ? Couldn't they, by regulation, provide that there be a 
more efficient or lower cost service, in these particular areas? 

Mr. SuMMERFiELD. Well, the CAB has, of course, no authority to 
set fares. Fares are recommended or applied for by the carriers based 
on their need to get a return on their investment. What I am trying 
to point out is that there are differences in the cost structure of the 
trunk and local-service carriers from the cost structure that exists in 
a small intrastate carrier. These differences make it difficult, impossible 
in many cases, to operate at lower fares for a larger system. There 
are other costs, and I am trying to review with you basically what 
those costs are. 

Some of them are the result of having an integrated system, which 
makes it more convenient for the public, 

LABOR COSTS SAVED BY PSA 

There are some costs related to unionization, that is, the union rules. 
One of these has to do with productivity. The one reason that cost 
differences are narrowing is that as airlines get older, the unions 
organize the workers and get stronger. Although PSA pays its pilots 
about the same amount per hour as its com|>etitors do, they have a 
different set of operating rules that enable PSA pilots to get maybe 
20 hours a month more flying time within the same maximum time 
than trunk carrier pilots do. This is a matter of union regulations, not 
of the management of the airline. Dr. Jordan's speculation that PSA 
labor rates are going up is probably a reflection that the unions get 
stronger as the airline gets stronger and as the airline is older. 

Mr. Guske pointed out that younger airlines have lower seniority 
structure and hence a lower wage-cost. 

On the basis of the numbers that I was able to get from the rela- 
tively sparse data that was published with the public Utilities Com- 
mission, my estimates. Senator, are that if PSA operated in the same 
operating environment and with the same kind of route structure as 
the trunk and local-service carriers, their pretax profits would have 
been reduced on the order of $20 million. 

Senator Kennedy. As I understand this, PSA has about 6i/^ million 
passengers so that $20 million in increased costs would mean about 
$8 additional fare per passenger. Yet PSA's fare from San Francisco 
to Los Angeles is $6 lower than the CAB carriers' intrastate fare and 
$18 lower than their interstate fare. Even taking the lower figure for 
the moment, how can you account for the other $8 ? 

Mr. SuMMERFiELD. I dou't liave a complete answer to where the dif- 
ferences are. Senator, and there are other differences that I have not 
been able to get any data on. I have, for example, not been able to 
make any estimates of differences in the training costs that I alluded 
to earlier, or some of the other differences. The $20 million is based on 



463 

those things for which I was able to get data from the rather sparse 
amount of data available for the Public Utility Commission filings 
and PSA applications for fare increases. 

Senator Kennedy. Fine. Thank you. 

Mr. Jordan, do you have any comments you want to make on any 
of these points that have been raised ? 

Mr. Jordan. I agree with Dr. Summerfield that if PSA were 
allowed to operate in the manner of trunk carriers they would indeed 
have higher costs. My position is that trunk carriers operate the way 
they do — not because they are bad people — but because they are regu- 
lated and they have certain rules they follow and this kind of game 
results in these kinds of outputs. PSA or nonregulated airlines do not 
operate in this manner. This is the whole point. They would operate 
efficiently in long-haul services as well as short-haul services. The only 
reason why PSA is a short-haul carrier is because it can't be a longer- 
haul carrier, it is limited to California. Part of the folklore of the air- 
line industry is that long-hauls are good, not bad, yet intrastate car- 
riers have been efficient even in short-haul operations. 

In terms of the decreased profits, I would argue he is talking about 
increased costs, not decreased profits, because as you pointed out he is 
ignoring the revenue side of the interlining operation. But given his 
cost estimates, which I don't agree with, but they have given them, the 
difference is only $3 per passenger. I would assert that in the case of 
reservations, for example, even if PSA did have interlining reserva- 
tions the person who called in Los Angeles for a ticket to San Fran- 
cisco would say, hello, when is your next flight to San Francisco, 
fine, reservations for so and so, telephone number 893-1808, and hang 
up, that is a minute call. There would be no long 3-minute telephone 
conversations, I have things to do with my time and they have things 
to do with their time. It wouldn't change for those simple kinds of 
passenger trips. I see no reason why the cost would be inflated by a 
large degree. 

The point is that without regulation you have specialization. You 
have carriers operating some type of aircraft in a very simplified man- 
ner. There are no excessive aircraft purchases or excessive aircraft 
operations. This saves a large am.ount of money. A 747 now costs $30 
million; that is roughly the cost of this building, I would guess, and 
when you start talking'about 100, or 200, or 300 large aircraft we have 
important differences in cost. If you talk about differences in employee 
output as I mentioned in figure 5, differences in costs are very impor- 
tant, and this is due to regulation. 

Senator Keiv nedy. Thank you very much. 

[The prepared statements "of Dr. Jordan and Dr. Summerfield fol- 
low. During the hearing of February 18, 1975, the chairman of the 
subcommittee asked Continental Airlines to respond to Dr. Jordan's 
testimony. The response by James L. Mitchell of Continental Airlines, 
a reply by Dr. Jordan, and further remarks by Continental Airlines 
are all printed after the prepared statement of Mr. Harvey Wexler 
of Continental Airlines, which follows the testimony of the panel of 
airlines on February 18, 1975, pp. 587 ff., below. Dr. Summerfield's 
written responses to Dr. Jordan's testimony and to a subcommittee staff 
memo are included after his prepared statement.] 



464 

Prepared Statement of Dr. William A. Jordan 

QUALIFICATIONS 

My name is Willian A. Jordan, I am a professor of managerial economics 
at York University, Toronto, Canada. During the past 27 years I have been 
employed in traffic, sales, and research positions by four airlines (the Scan- 
dinavian Airlines System, Air France, Seaboard World Airlines, and Western 
Air Lines), have consulted on airline and airport matters, and have taught 
graduate courses and/or done research in economics and government regulation 
at Columbia University, Northwestern University, Stanford University, U.S. 
International University and York University. My Ph. D. in managerial eco- 
nomics is from the University of California, Los Angeles, and my research 
publications include the following : Airline Regulation in America : Effects and 
Imperfections, 1970 ; Producers Protection, Pi-ior Market Structure, and the 
Effects of Government Regulation, 1.5 Journal of Law and Economics, April 
1972 : Airline Capacity Agreements : Correcting a Regulatory Imjierfection, 39 
Journal of Air Law and Commerce, Spring 1973; If We're Going to Regulate 
the Airlines, Let's Do it Right, in James C. Miller III, ed., Perspectives in 
Federal Transportation Policy, 1975. 

I am a colonel in the U.S. Air Force Reserve and since 1959 have been as- 
signed to Headquarters, Military Airlift Command. I was a member of the 
American Statistical Associaiton Advisory Committee for Statistical Research 
to the Civil Aeronautics Board from 1967 until it was disbanded this past year. 
My current professional memberships include the American Economic Associa- 
tion, Western Economic Association, Canadian Economic Association and Cana- 
dian Transportation Research Forum. Individually, or jointly, my wife and I 
own stock in the following airlines : Air California, Airlift International, Braniff 
International, Capitol International, Continental, Xordair, North Central, Pacific 
Southwest, Sedalia-Marshall-Boonville, Southwest, United. 

INTRODUCTION 

A useful way to investigate the actual results of the activities of independent 
regulatory commissions is to compare the performances of firms regulated by 
such commissions with those of other similar firms operating beyond the com- 
missions' jurisdictions. It is possible to make such cross-sectional studies of 
Civil Aeronautics Board (CAB) regulations because the CAB does not regulate 
all parts of the U.S. airline industry. The intrastate airlines operating entirely 
within California, and recently, within Texas provide the best examples of 
airlines not regulated by the CAB. Also, the CAB has exempted third-level/ 
commuter carriers from most of its regulatory control so long as they operate 
only small aircraft. Furthermore, comparisons with Canadian airline perform- 
ance can be useful because, while Canada is a different country, it shares many 
geographical, demographic and social characteristics with the U.S. 

Another way to measure the effects of regulation is to compare industry 
performance before and after a major change in regulatory policy. Time-.series 
studies such as these provide less reliable results than cross-sectional studies, 
however, because considerable time often is required for the effects of specific 
actions to come to full fruition. In the meantime, other developments may 
impinge on or otherwise obscure the effects of the policy action under study. 
Occasionally, though, time-series evidence can be quite useful, especially when 
it corroborates evidence obtained from cross-sectional analyses. 

A fundamental problem in using time-series data is estimating the effects of 
government regulation is that a change in a regulatory policy merely results 
in a relative change in performance under regulation. Unless the action to be 
studied results in a change from where regulation did not exist to one where 
it was implemented, there is no benchmark or baseline with which to deter- 
mine the absolute effects of regulation per se. Without the benchmark of non- 
regulated performance, it is difficult, if not impossible, to determine whether 
some regulatory policy results in an additional deviation from non-regulated 
performance by 10 percent, or 20 percent or whatever. For example, a CAB 
action may cause the regulated trunk and local service carriers to raise their 
fares by only five rather than 7 or 8 percent. Tlius, it might be argued that 
CAB regulation decreases the relative level or regulated airline fares. This 
may be true, but without knowing what fares would have been without CAB 
regulation one can not conclude from this that such regulation reduces absolute 



465 

fare levels. It may well be that the existence of CAB regulation since 1938 
has resulted in fares that are substantially higher than what would have 
developed in its absence. If so, then any impediment the CAB now introduces 
to fare increases merely serves to reduce the degree to which regulated fares 
exceed non-regulated fares. 

This testimony will present evidence from various cross-sectional and time- 
series studies regarding the effects of CAB regulatory practices on the economic 
performance of the regulated airlines. Emphasis will be placed on entry and 
the number of airlines in existence, fares, and productive efficiency, with some 
mention also being made of safety and profits. The primary source of this 
evidence will be a comparative study of the California intrastate carriers and 
the CAB-regulated airlines, supplemented by additional evidence concerning the 
Texas intrastate carrier, Canadian airlines, third-level carriers, and the results 
of extending CAB regulation over military charter operations. 

CAB REGULATION HAS DECREASED THE NUMBER OF AIRLINES 

One result of CAB regulation has been the effective restriction of entry into 
airline oi>erations. The only airlines so far authorized to provide trunk service 
were those who obtained their certificates of public convenience and necessity 
under the "grandfather" provisions of the Civil Aeronautics Act of 1938 (52 Stat. 
988). Today, 10 of the original 16 trunk carriers remain — the others having been 
acquired by or merged with surviving trunk carriers.' The same is true for the 
local service carriers. With the single recent exception of Air New England, all 
of the existing local service carriers were among the 21 airlines the CAB al- 
lowed to enter the industry during the "local feeder" experiment between the 
end of World War II and October 1950. Again, acquisition by or merger with 
other certificated carriers characterized the means by which failing local serv- 
ice carriers have left the industry, and now only eight of the original 21 remain.^ 

The extent to which CAB regulation has effectively restricted new airlines 
from impinging upon the activities of the original trunk and the local service 
carriers can be seen by comparing the relative shares of the almost $13 billion 
of overall operating revenues earned systemwide in 1973 by all U.S. airlines 
operating large aircraft.^ The trunk carriers, plus Pan American, accounted for 
84.2 percent of this total revenue while the local service carriers earned another 
8.2 percent. Thus, these two groups consisting of 19 scheduled passenger/cargo 
carriers accounted for 92.4 percent of the $13 billion, leaving the remaining 7.6 
percent for the Alaskan, Hawaiian, territorial, helicopter, intrastate, all-cargo, 
supplemental and other carriers (31 in all) that operated in 1973.* 

This means that, combined, these 31 other carriers earned fewer operating 
revenues than the local service carriers and less than one-tenth the revenues of 
the trunk carriers and Pan American. One would think that the managers and 
employees of the trunk and local service carriers would be quite pleased with 
this situation and would feel that CAB regulation had been good to them during 
these past 36 years. Indeed, had the early airline pioneers been told back in 1938 
that CAB regulation would result in this allocation of such large oi>erating rev- 
enues one would exi>ect they would have been quite pleased with the prospect. 
But present-day industrj' leaders appear to be dissatisfied with this situation and 
are endeavoring to increase their present dominant share. It should be recog- 
nized, however, that none of these leaders proposes the abolition of CAB regula- 
tion, merely its improvement. 

In California, the California Public Utilities Commission (PUC) did not have 
power over airline entry within the state until September 1965. During the years 
from 1946 to 1965, at least sixteen airlines inaugurated scheduled service with 
large aircraft within the confined area of California, and entry occurred through- 
out these years rather than being concentrated in a single time period (as was 
the case under CAB regulation). Fourteen of these airlines subsequently termi- 
nated service after operating from only a few weeks to over six years. In not 
one of the.se ca.ses, however, was a failing airline acquired by or merged with 



1 William A. Jordan. Airline Regulation in America : Effects and Imperfections, 15-17 
(1970). ALSO, a\B Handbook of Airline Statistics. 568-69 (1973 ed.). 

2 Id. 

SCAB, Air Carrier Financial Statistics. 1-14. 98 (December 1973); Air California, 
Annual Report (1973) ; PSA Annual Report (1973) ; and Southwest Airlines Annual 
ReDort (1973). 

* The only carriers excluded from this compilation are the few third-level carriers who 
have CAB exceptions to operate large two-engine propeller aircraft. 



51-146 O - 76 - pt. 1 - 31 



466 

another carrier. This is in marked contrast to the consistent usage of these meth- 
ods of exit by the CAB-reguIated airlines. This implies "that the asset of an air- 
line that is of unique value to other airlines is its CAB certificate of public 
convenience and necessity, not its aircraft, facilities, or good will, . . ." ^ 

Not only does the California experience demonstrate that CAB regulation has 
effectively impeded entry into the interstate airline industry and has promoted 
exit via merger and acquisition, but it also indicates that this regulation has 
served to limit the number of airlines in existence at any point in time. Based 
on the system sizes and traffic volumes of the California intrastate carriers, it 
appears that without CAB regulation from 100 to over 200 airlines operating 
large aircraft would have existed at any one time in the 48 contiguous states 
from 1949 through 1965. This is in sharp contrast to the 35 to 24 trunk and 
local service carriers that the CAB actually allowed to operate during that pe- 
riod." Should this range seem unrealistioally large, one should note that a total 
of 201 commuter air carriers Oii>erated under very constrained conditions during 
fiscal year 1973, and that 126 of these small airlines operated for the entire 
year.' Implicit in the conclusion that CAB regulation serves to limit greatly the 
number of airlines in existence is the finding that there are no appreciable 
economies of scale in nonregulated airline operations, and that a high degree of 
specialization by airlines would occur without regulation.* 

Effective entry control is a crucially important factor in protecting established 
airlines, their employees and their suppliers. Not only does it insulate the air- 
lines from the results of honest errors in judgment and from possible managerial 
inefficiencies, but it also allows monopolistic or oligopolistic suppliers of inputs 
(such as labor, aircraft, petroleum products and airports) to charge ever higher 
prices for their products and services. All of these factors increase the operat- 
ing costs of regulated airlines. Furthermore, market protection enhances the 
viability of charging higher prices so that the regulated airlines can seek to cap- 
ture monopoly profits. Given entry control, cost increases and higher fares can 
persist because new, more eflScient carriers paying lower prices for their inputs 
are prohibited by CAB regulation from entering the industry, offering lower fares 
for their services and, eventually, replacing or reducing the sizes of the existing 
airlines. Evidence on fare levels and operating costs will be presented in the 
following sections. 

CAB REGULATION HAS INCREASED AIRLINE FARES 

Evidence from California 

Article XII of the California State Constitution has long empowered the 
PUC to regulate the intrastate rates and fares of all transportation companies, 
including the airlines. In practice, the PUC has controlled airline fare increases, 
but not decreases." Effective September 17, 1965, the PUC received authority from 
the legislature to regulate entry and exit to and from scheduled airline passenger 
service.^" It has exercised this power over entry with an enthusiasm comparable 
to that of the CAB. To date, it has issued to just five airlines certificates of public 
convenience and necessity to operate large aircraft (those carrying over 30 
passengers) in scheduled passenger service. Four of these, including three "grand- 
father" certificates, were issued in the fall of 1966," while the fifth, and last, 
certificate was issued in early 1969 and then reissued in September 1971." 

All other applications for certificates have been denied." 



^ William A. Jordan, supra, note 1, at 17-14, esp. pp. 23-24. 

« Id. at 24-32. 

•CAB, Commuter Air Carrier Traffic Statistics, Year Ended June .30, 1!)73, 3 (June 
1974). 

^ William A. Jordan, supra, note 1, at 191-94. 

»Id. at 2-4. 

" Id. Also, State of California, Statutes and Amendments to the Codes, 196.5 Chapters, 
A-3, 214.") (196.')). 

It PUC decision 71310 (September 20, 1966) for Air California: rUC decision 71393 
(October 11, 1966) for Pacific Southwest Airlines (PSA) : PUC decision 71490 (November 
1, 1966) for :Mercer Enterprises, and PUC decisions 71648 (December 6, 1966) and 72.')60 
(April IS. 1967) for Holiday Airlines. 

1- PUC decision 7.")373 (Februar.v 25, 1969) issued a certificate to California Sierra Air- 
lines which was revoked by PUC decision 7S6S2 (May 18. 1971) when this carrier failed 
to inaugurate service. Essentially the same route to the Mammoth Lakes ski resort area 
was then awarded to Sierra Pacific .\irlines in I'UC decision 79166 (September 21. 1971). 

"For example, the applications of .\ir Metrooolitan and Pacific Air Transport to 
operate between points in the Los .\n>,'eles and San Francisco metropolitan areas were 
denied in PUC decisions 74S37 (October 15, 196S). and 76110 (September 3, 1969). 



467 

This change in California regulation provides some interesting comparisons 
with which to evaluate the effects of entry control on fares. Prior to 19G5, 
it is possible to make a cross-sectional comparison between the fares of air- 
lines operating within California without entry protection and the fares of 
CAB-regulated airlines who were protected from entry into their interstate 
city-pairs. Then a comparison can be made between the fares of the intrastate 
and CAB-regulated carriers after 1965 when both enjoyed closed entry. Finally, a 
time-series comparison can be made for iiercentage fare changes by the two 
types of carriers following the PUC's effective closure of entry after 1965. First 
the pre-19()5 comiJarison. 

One important aspect of PUC rate regulation was that the initial tariff of 
a new carrier had to be accepted providing it conformed to basic technical and 
publication requirements. " Thus, there was no regulation of the fares introduced 
by new carriers. The first ma.ior period of entry by intrastate carriers occurred 
in 1949 when seven airlines (including Pacific Southwest Airlines) inaugurated 
coach service between the larger city-pairs and, in the process, introduced new 
low fares. Of these seven airlines, only PSA has survived so its fares will be 
used here, both because they are representative of those adopted by other intra- 
state can-iers at the specified times and because they provide a continuous fare 
history for the entire period. 

TABLE l.-PSA'S COACH FARES COMPARED WITH CAB-AUTHORIZED IST-CLASS FARES FOR THREE MAJOR 
CALIFORNIA CITY-PAIRS, 1949 



CAB-authorized percent 



CAB-authorized2 greater than PSA 



City-pairs 


One-way 


Round trip 


One-way Round trip ' 


One-way 


Round trip 


LAX/BUR-SFO/OAK 


_ _ $9.95 


$19.90 
11.30 
31.20 


$21.05 $40.00 
6.75 12.82 
27.80 52.82 


111.6 
19.5 
78.2 


101.0 


LAX/BUR'SAN 


5.65 


13.4 


SAN-SFO/OAK 


15 60 


69.3 









• Coach fares effective May 23, 1949 to Mar. 27, 1951. 

2 Ist-class fares effective Sept. 1, 1948 to Apr. 29, 1952. From Feb. 1 to Oct. 14, 1949, the CAB authorized Western to 
offer a "no-meal" tariff which gave a 5-percent discount on all fares. Thus, during this 9)-^-month period, Western's 
one-way fares were equal to 1/2 the regular round trip fares. 

3 A 10-percent discount was given on the return portion of round trip journeys by CAB-regulated airlines. 

Source: William A. Jordan, "Airline Regulation in America," 276-78, 284-87 (1970). 

Table 1 compares the 1!)49 coach fares of I'SA in the three major California 
city-pairs with the first-class fares authorized by the CAB and utilized by United 
and Western airlines who were the CAB-regulated airlines serving all three of 
these city-pairs. It is necessary to compare coach with first-class fares in 1949 
because CAB-regulated carriers did not offer coach service in short-haul city- 
pairs at that time, making first-class their lowest available fare. 

Table 1 shows that the CAB-authorized one-way fares ranged from 19 to 111 
percent higher than the fares of PSA (and other intrastate carriers). The 
greatest difference was in the Los Angeles-San Francisco city-pair where a medi- 
um stage length (340 miles) combined with high traffic density resulted in low 
operating costs for the intrastate carriers. The smallest difference was for Los 
Angeles-San Diego where a short stage length (109 miles) and much lower 
traffic density yielded higher operating costs and, therefore, higher fares per 
mile.''' The lower fares introduced by the intrastate carrier greatly benefited 
pas.sengers who preferred somewhat inferior service quality and low fares to 
high-quality, high-price service. These passengers, in turn, benefited the intra- 
state carriers by utilizing their services. In 1949, total traffic in these three 
city-pairs increased 34 percent and almost one-third of all pas.sengers utilized 
the low-fare coach service of the intrastate carriers. At the same time, the CAB- 
regulated airlines' first-class traffic fell 9.4 i)ercent from its 1948 level.'" 

As shown in table 2, this same fundamental fare relationship still existed in 
1965 after over 16 years of open entry within California. 



'< William A. .Tordan. supra, note 1, at 114. . .., x,, 

i"' 194!» total on linp oricin and df'stination nassencer traffic on all carriers '" tJiejnrPe 

major California citv-pairs were: LAX/P.TJR/LGR-SFO/OAK = 459,400' ; LAX/BUR/LGB- 

SAX = 81,700 ; and SAX-SF0/OAK = 29,200. Id. at 307, 311, 315. ^^^ ^^^ . 

« Total on-line O&D passpncer traffic for these three city-pairs grew from 426.000 in 

1948 to 570,000 in 1949. Of the 1949 total, the intrastate carriers accounted for 184,300 

passengers and the CAB-regulated airlines 386,000. Id. 



468 

TABLE 2.-PSA'S COACH FARES COMPARED WITH CAB-AUTHORIZED COACH FARES FOR THREE MAJOR 
CALIFORNIA CITY-PAIRS, 1965 

One-way coach fares ' 

CAB-authorized, percent 



CAB-authorized 3 greater than PSA 



City-pairs 


Propeller 


Jet 


Propeller 


Jet 


Propeller 


Jet 


LAX/BUR-SFO/OAK 


$11.43 


$13. 50 
6.35 
19.85 


$21. 70 
9.45 
27.15 


$23. 70 
10.90 
29.25 


89.9 
48.8 
52.7 


75.6 


LAX/BUR-SAN __._ 


::::::: 6.35 


71.6 


SAN-SFO/OAK 


17.78 


47.4 









1 Round-trip fares equal twice the one-way fares for ail carriers. 

2 Effective Apr. 20, 1965 to Aug. 2, 1969. 

3 Effective Feb. 1, 1962 to Feb. 1, 1968. Applicable to interstate passengers making stopovers in these cities on journeys 
originating and/or terminating outside California. Also, the jet coach fares were approved by the PUC in April 1962 for 
intrastate passengers utilizing interstate jet flights. 

Source: William A. Jordan, "Airline Regulation in America," 111, 279-87 (1970). 

The lowest CAB-authorized coach fares for 1965 were 47 to 90 percent greater 
than PSA's coach fares. This somewhat decreased range in fare differences, 
compared with 1949, resulted from two developments. First, starting on May 14, 
1950, the CAB allowed the interstate airlines to provide coach service and fares 
in California city-pairs so this 1965 comparison is based on coach fares for both 
categories of carriers." Second, since 1952 the CAB has promoted the adoption 
of an ever larger fare taper whereby short-haul fares per mile (such as for Los 
Angeles-San Diego) have been increased more than the fares per mile for 
longer-haul city-pairs.^^ Generally speaking, given these developments, it can be 
concluded that had CAB regulation kept the California intrastate carriers from 
inaugurating service the coach fares in these three major California city-pairs 
would have been those authorized by the CAB and, therefore, would have been 
from 47 to 90 percent higher than they actually were. 

Since the PUC has had the power to close entry since 1965, it would seem 
reasonable to predict that differences between CAB-authorized fares and those of 
PSA should now be less than before. To the contrary, as shown in table 3, even 
following the PUC's most recent fare authorization (effective January 29. 1975), 
the percentage differences between PSA's fares and those authorized by the CAB 
(effective November 15, 1974) have increased to a range of from 70 to 108 per- 
cent compared with the 1965 range of 47 to 90 percent. 

The above findings are surprising, but it should be remembered that they 
reflect the effects of accumulated fare changes since 1949. Actually, since the 
PUC's decision to prevent new carriers from entering the major California city- 
pairs was not fully implemented nor apparent until late 1969, it may be 

TABLE 3.— PSA'S COACH FARES COMPARED WITH CAB-AUTHORIZED COACH FARES, FOR THREE MAJOR 
CALIFORNIA CITY-PAIRS, JAN. 29, 1975 

CAB- 
authorized 
One-way jet coach fares i percent 

City-pairs J'^i^^l 

than PSA 



LAX/BUR SFO/OAK 


$19.21 


$39. 23 
20.71 
45.71 


104.2 




._ 9.95 


108.1 


SAN-SFO/OAK 


_. .. 26.85 


70.2 



• Round-trip fares equal twice the one-way fares for all carriers. 

2 Effective Jan. 29, 1975. „ . 

3 Effective Nov. 15, 1974. The CAB has authorized an additional fare increase and restructuring to become effective 
Apr. 29, 1975. 

Sources: CAB orders 74-11-62 (Nov. 14, 1974) and 74-12-109 (Dec. 27, 1974). PUC decisions 83814 (Dec. 10, 1974), 
83918 (Dec. 30, 1974) and 83939 (Dec. 30, 1974). Norman Richards, Asst. Chief, CAB domestic passenger fare section, 
telephone conversation (Jan. 14, 1975). 



I'' Id. at 78. 

i« Id. at 64-65. Also, CAB Orders 74-3-82 (March IS, 1974) and 74-12-109 (Decem- 
ber 27, 1974). 



469 

more meaningful to look for possible effects on fares from this action by 
comparing fare increases between 1969 and early 1975 than by comparing fare 
levels in 1975. It happens that the CAB-authorized two-fare increases in 1969 — 
the first significant increases since February 1, 1962 — with the second resulting 
in a major increase and restructuring of coach fares that became effective on 
October 1, 1969.'° Similarly, the PUC also authorized PSA to increase its fares 
twice in 1969 with the second becoming effective on December 3 ; and it happens 
that these increases were the first implemented by PSA since December 12, 1960.-" 
Thus, the fares in effect at the end of 1969 provide like bases for a time-series 
comparison of the effects of CAB and PUC regulation under closed entry. This 
comparison is presented in table 4, and it indicates how PSA and the PUC, on 
the one hand, and the interstate airlines and the CAB, on the other hand, 
responded to such factors as inflation, airport security expenses and increases 
in petroleum prices, all under similar regulatory conditions. 

TABLE 4.-INCREASES IN COACH FARES FROM LATE 1969 TO EARLY 1975: PSA COMPARED WITH CAB-AUTHORIZED 
FARES FOR THREE MAJOR CALIFORNIA CITY-PAIRS 



One-way jet coach faresi 



CAB-authorized 



Percent increase 



City-pairs 


Dec. 3, 
1969 


Jan. 29, 
1975 


Oct. 1, 
1969 


Nov. 15, 
1974 


PSA 


CAB- 
authorized 


LAX/BUR-SFO/OAK 


$15.00 


$19.21 
9.95 
26.85 


$30. 00 
15.00 
36.00 


$39.23 
20.71 
45.71 


28.1 
34.8 
28.2 




LAX/BUR-SAN 


7.38 




SAN-SFO/OAK 


20.95 


27.0 



1 Round-trip fares equal twice the one-way fares for all carriers. 

Sources: Table 3. CAB order 69-9-68 (Sept. 12, 1969). PUC decision 76447 (Nov. 18, 1969). 

The similarities between the percentage increases for the two categories of 
carriers in these three city-pairs are indeed remarkable. For the first time since 
1949, percentage increases in PSA's fares have been almost the same as those 
for CAB-authorized coach fares. This is certainly not conclusive evidence that 
PSA's pricing practices under the new PUC regulator environment will be about 
the same as that of the CAB-regulated airlines, but it is consistent with the 
hypothesis that similar regulation does have similar effects on airline fares. 
Actually, it is much too soon to draw firm conclusions on this matter. It takes 
many years for the effects of an important change such as the imposition of 
entry control to work its way through the economy, but there appears to be 
a start in this direction. 

Overall, the California experience provides strong evidence that one major 
accomplishment of CAB regulation has been to increase airline fares by large 
amounts. Since the CAB establishes fares on a nationwide basis, the sizes of 
these increases would vary with conditions in individual city-pairs. For short- 
haul city-pairs, present coach fares are probably between 40 to 70 percent higher 
than they would be without CAB regulation — with the larger differences oc- 
curring in those city-pairs with the higher traflSc densities."' Thus, without CAB- 
regulation, current Boston-New York and. New York-Washington one-way coach 
fares would probably be around $15 and $17 vs. the actual fares of $25.93 and 
$27.78." In medium-haul city-pairs (between, say, 250 and 1,000 miles), it appears 
that CAB-authorized coach fares range from 75 to over 100 percent higher than 
non-regulated fares. This means, for example, that absent regulation the Boston- 
Washington coach fare would be around $21 instead of the current $41.67."^ 



«Id. Also, CAB orders 69-2-98 (February 19. 1969) and 69-9-68 (September 12, 1969). 
The first of these orders increased coach fares by $2 in city-pairs oOO miles or less apart, 
and by .$1 in city-pairs between iiOl and 1,800 miles apart. The second order established 
a fare structure based on a .$9 terminal charge and various line-haul charges starting at 
60 per mile for the first 500 miles. 

20 Id. at 285. Also, PUC decisions 75899 (July S, 1969) and 76447 (November 18. 
1969). Together, these two decisions yielded fare increases of 11.1, 16.2 and 5.5 percent 
in the three major city-pairs. 

^ In addition to the Los -Vngeles-San Diego data, the fare experience in eight minor 
California city-pairs from 1951 to 1965 also support this conclusion. Id. at 115-3.3. 

22 1 Official Airline Guide 14.3, 150, 716 (North American Edition, .Tanuary 1, 1975). 
The distances between these two city-pairs are: B0S-NYC = 191 miles, NYC-DCA = 215 
miles. CAB, supra, note 1, at 4.33. 

23 Id. Boston and Washington are 406 miles apart. 



470 

Finally, extrapolating the California evidence in conjunction with our knowledge 
that average costs of airline operations decrease with distance, leads to the 
conclusion that CAB-authorized fares in the transcontinental city-pairs are also 
around 100 percent higher than they would be without regulation. That is, 
rather than paying ,$187.04 (plus tax) to Hy from Boston to Los Angeles, one 
would pay only $D0 to $100 for unregulated service."^ 

Differences of these magnitudes are startling to say the least, and they lead 
to the question of whether or not the California experience may be due to unique 
factors other than regulation. For example, it is correctly pointed out that Cali- 
fornia weather is milder than other parts of the country and that the three major 
city-pairs have extremely heavy traffic volumes. These arguments overlook the 
fact that the weather is also good in both Los Angeles and, say, I'hoenix (358 
miles apart) yet the high, allegedly cost-based, CAB-authorized coach fares have 
applied in that city pair rather than the lower California-type fares. Indeed, the 
Los Angeles-Phoenix coach fares have been identical to those in the Chicagio- 
Minneapolis/St. Paul city -pair (344 miles apart) despite the differences in 
weather conditions in these two city-pairs.^ Similarly, if weather is so important, 
why isn't a lower fare formula applied to Los Angeles-Miami service than to Los 
Angeles-Boston service V 

Regarding traffic density, it should be noted that in 1948, the year before the 
intrastate carriers inaugurated low-fare service, Boston-Xew York/Xewark was 
the largest city pair in the LLS., with Los Angeles/Burbank-San Francisco/Oak- 
land being a poor second accounting for about 35 i)ercent fewer true O&D pas- 
sengers."'" Yet, as indicated in table 1. efficient intrastate carriers were able to 
survive in the then lower-density California city-pairs at much lower fares per 
mile than the CAB authorized for the major East Coast city-pairs and, remem- 
ber, this was well before the days of airport congestion. True, due in part to the 
availability of low fares, by 1972 the Los Angeles-San Francisco "area" pair 
accounted for 5.6 million on-line O&D passengers compai-ed with 2.1 million true 
()&D passengers in the Boston-Xew York "area" pair.-' It should be recognized, 
however, that the 5.6 million Los Angeles-San Francisco passengers were ac- 
commodated through eight airports and 13 separate airport pairs, compared with 
only four airports and three airport pairs for Boston-Xew York, and that low 
intrastate fares were available in all of the Los Angeles-San Franci.seo airport 
pairs even though four of them each accounted for less than 200,000 O&D pas- 
sengers in 1972.^ Xo. possible cost differences due to weather and traffic densities 
come nowhere near accounting for the differences of 100 percent or more that 
have exi.sted between PSA's fares and those authorized by the CAB. 

Fortunately, supplementary evidence regarding the effects of regulation on 
airline fares is available from the Texas intrastate experience, Canadian regu- 
lation, and from U.S. military airlift procurement. Brief summaries of some of 
this evidence are presented in the following sections. 

Evidence from Texas 

On February 20, 1968, the Texas Aeronautics Commission (TAC) issued a 
certificate of public convenience and necessity to Southwest Airlines authorizing 
it to provide scheduled intrastate service l)etween Dallas/Ft. Worth, Houston 
and San Antonio.^ Immediately thereafter, Braniff Airways and Texas Interna- 
tional Airlines began over three years of litigation in the Texas and U.S. Federal 
courts, the CAB and the TAC to prevent Southwest from inaugurating service. 



"In April 1967. World Airways (a supplemental carrier) applied to the C\B for 
authority to operate scheduled nonstop service between California and the East Coast at 
a "thrift service" fare of .$79.50 compared with the then existing coach fare of .?145.10. Sfi 
Aviation Week and Space Technology 27 (May 1, 1967). Similarly, applying the CAB's 
recently approved low-season seat-mile rate for charter operations with aircraft having 
more than 229 seats (2.40 per seat-mile) and assuming a 6.")-percent load factor, yields 
a $96.00 one-way fare between Boston and Los Angeles (2,600 miles apart). CAB regula- 
tion PS-.57 (October 18. 1974) at 17. 

-•■'' See, for example, supra, note 22, at 201. r)42. Note that the difference between origin 
and destination traffic for these two citv-pairs is not great. In 1972, ORD-MSP = -: "6,000 
passeneers while LAX-PHX = .S4.S.000. CAB, sunra, note 1, at 43.3. 

=«BOS-lSrYC/EWR = .-)50,.500 passengers, LAX/BUR/LGB-SFO/OAK = 297,600. CAB, Air- 
line Traffic Survey (March and September 194S). 

2" CAB, supra, note 1, at 4.3.S ; and PTTC, Intrastate Origin-Destination Passengers of 
Scheduled Air Carriers. Quarter and Twelve Months Ended December .31, 1971 and 1972, 
2 (Renort 1511.33, 1974). 

^ PT'C. sunra, note 27, at 4-6. Also, see appendix B. 

-"Thomson & INIcKinnon Auchincloss, Inc., Prospectus, Southwest Airlines Co., 8 (.Tune 8, 
1971). Southwest was incorporated on :\Iarch 9, 1967 (Southwest Airlines annual report, 
note 1, 1971). 



471 

As a result of this. Southwest was luiable to inaugurate service until June 18, 
1971, and it was forced to incur legal expenses ()f well over $500,000 before it 
even began operations.'" While it is not known whether TAC regulation will 
effectively close entry within Texas, the problems Southwest had makes it ap- 
pear that future entry will be restricted. Thus, the regulatory structure within 
Texas is probably more like the current I'UC and CAB situations than the open- 
entry environment of California prior to 1965. 

Initially, Southwest offered a .$20 one-way price (fare plus 8 percent trans- 
portation tax) between IMllas-Houston (222 miles) and Dallas-San Antonio 
(253 miles) compared with the CAB-authorized .jet cdach prices of .$27 and $28, 
respectively.''^ Branift" and Texas International immediately matched these prices 
for their intrastate passengers, but not for iiassengers originating or terminating 
outside of Texas and thus subject to CAB regulation. The full price histories 
for these two city-pairs through December 1974 are given in appendix A. This 
appendix .shows that, .starting on .Tuly 9. 1972, Southwest raised its day-coach 
price to $26 (almo.st back to the earlier CAB-authorized level). Braniff and 
Texas International quickly matched this higher price and, subsequently, re- 
adopted CAB-authorized fares which resulted in the three $1 to $2 price in- 
creases shown in the appendix. The most interesting developments during this 
period were Southwest's introduction of a $13 one-way, day-coach price between 
Dallas and San Antonio on .lanuary 22, 1973, followed by Braniff's introduction 
of a retaliatory $13 price between Dallas and Hou.ston's Hobby Airport for a 60- 
day period starting February 1, 1973. 

It is clear that the entry of an intrastate carrier did serve to lower prices paid 
by passengers in these city-pairs. This was especially true between Dallas and 
San Antonio where Southwest relied on its lower price to make up for its in- 
frequent service (it scheduled 48 to 66 weekly one-way trips compared with 
Braniff's 210 to 260 weekly trips)."- In this city-pair, Braniff's regular day-coach 
prices were 93 to 115 percent higher than Southwest's — cpiite similar to the Cali- 
fornia experience. In the Dallas-Houston city-pair, in contrast. Southwest pro- 
vided much moie fre<pient service and operated to and from convenient Love 
Field in Dallas and Hobby Airport in Houston. As a result, it was able to attract 
passengers at relatively high weekday prices that were almost equal to the CAB- 
authorized prices. It did, however, initiate low weekend and night-coach prices 
of $13 and $15 which resulted in CAB-authorize<l coach fares being 87 to 108 
percent higher during evenings and weekends. 

On October 1, 1974, Southwest modified its Dallas-Houston price structure by 
decreasing the day-coach price from $28 to ,$25, and it then extended this price 
stnicture to its other two city pairs. Table 5 summarizes these new prices and 
compares them with those of the CAB-regulated airlines following the CAB- 
authorized fare increase of November 15, 1974. 

TABLE 5.-S0UTHWEST'S COACH FARES COMPARED WITH CAB-AUTHORIZED COACH FARES FOR THREE 
MAJOR TEXAS CITY-PAIRS, NOV. 15, 1974 



One-way coach prices' 



CAB-authorized percent 
greater than southwest 



Night/ CAB- 

City-pairs Day weekend 2 authorized 3 Day 



DAL-HOU 


$25 


$15 
15 
15 


$31. 37 
32.37 
29.37 


25.5 
29.5 
17.5 


109.1 


DAL-SAT 


25 


115 8 


HOU-SAT 


25 


95.8 









1 Fare plus 8 percent Federal transportation tax. 

2 Effective after 7 p.m. on weekdays and all day on Saturdays and Sundays. 

2 Includes the 37 cents airport security surcharge. Southwest does not assess a security surcharge. 

Sources: 1 "Official Airline G;iide" 7, 280, 28P, 469 (North American Edition, Dec. 1, 1974). Richard Robertson, Sales 
Representative, Southwest Airlines, telephone conversation (Jan. 23, 1975) 



™ William A. Jordan. Some Predatory Practices Under Government Regulation?, 22-24 
(processed. .January 107.">). Southwest Airlines, supra, note 29. 

"^ See appendix A. Prices (fare.s plus S-percent transportation tax) are used in this 
analysis hecause the practice of rounding prices to the nearest whole dollar simpli^^es the 
data. Pares were used in the California analysis because the transportation tax changed 
from !.■) to 10 to 5 percent at various times after 1949 before being set at the current 
S-percent rate on Julv 1, 1970. 

==-' William A. Jordan, supra, note 28, at 31-32. 



472 

Day-coach price differeuces of 17.5 to 29.5 percent are not as spectacular as 
the differences of over 100 percent tliat were available between Dallas and San 
Antonio during most of 1973 and 1974, but it should be noted that the most 
iiuiiorraut city-pairs had the largest differences and savings of $6.37 and $7.37 
per 4.1- (ir .".(l-minute trip are significant to many individuals. Travelers on evenings 
and weekends are, of course, benefited by an additional $10, and the price 
differences are again around 100 percent. 

Certainly, by simply allowing this single intrastate carrier to enter and pro- 
vide service, the TAC has benefited many Texas travelers, as well as Southwest,'^ 
at the expense of the CAB-regulated airlines. Again, tbe key factor was entry. 
The most effective way for a new firm to carve out a viable share of a market 
is to offer comparable service at lower prices. Only if more efficient or innovative 
firms are allowed to enter does such economically useful rivalry occur. It remains 
to be seen whether or not the TAC will allow still other new airlines to test their 
mettle in this manner. If it does, one can predict a continuation or an increase 
in the price differences shown in table 5. If, on the other hand, the TAC closes 
entry to potential Texas intrastate carriers, one can predict that at most the 
present differences will persist, and it seems more likely that the percentage 
differences will decrease. In any case, by allowing Sonthwest to inaugurate 
service, the TAC has provided additional evidence that CAB regulation does 
serve to increase airline fares. 
Evidence from Canada 

While there have been dift'erenees in administrative procedures and in relative 
independence from various branches of government, the regulatory powers of the 
Air Transport Committee (ATC) of the Canadian Transport Commission (and its 
predecessor, the Air Transport Board) have been quite similar to those of the 
CAB.^* Since 1938, all Canadian airlines (including intra provincial and the 
smallest of fixed-base or bush operators) have been subject to regulatory con- 
trol over entry and exit, prices and service quality.'"' Furthermore, the largest 
Canadian airfine, Air Canada, is a Cro\^'n (government-owned) corporation 
\\hieh has received special consideration and protection from both the Canadian 
I'arliament and the regulatory Cdiiimissions.'"' 

Montreal-Toronto is the city-pair witliin Canada most like the major East 
Coast and West Coast city-pairs in the U.S. Montreal and Toronto are 322 mile" 
apart and in 1972 a total of 758,520 origin and destination passengers flew between 
them."' This traflic volume resulted in it being ranked about eleventh in total 
size on the North American continent in 1972 and, overall, it is clear that 
Montreal-Toronto is a high-volume, medium-haul city-pair.'*' Among U.S. airport 
pairs of about the same traflic density and distance are Los Angeles-Oakland 
(712,720 O&D passengers in 1972 and a distance of 339 miles), Los Angeles-San 
Jose (666,312 passengers and 309 miles), and Boston- Washington (570,000 
passengers and 399 miles).® A common fare has long been in effect between Los 
Angeles/Burbank and San Francisco/Oakland/San Jose, and it happens that the 
simple average of the resulting six airport-to-airport mileages is 322 miles — the 
same as the Montreal-Toronto mileage."' Tliis mih'u.m' similarity facilitates direct 
comparisons between fares available in these two (■ity-i»airs. 

If relatively complete regulation (including entry control) has similar effects 
on increasing fares, one would expect the regulated coach fares between Montreal 
and Toronto in 1965 to be about the same as the CAB-authorized coach fares 
between Los Angeles and San Francisco and, to be much higher than PSA's fares 
which had developed in a relatively unregulated environment. Furthermore, one 



•" DnrinfT the twelve iiiiiiitlis ended September .>(). 1974. Southwest earned a net income 
of .i;2.1 million on total revenues of .$l.S.l million. Southwest Airlines, Annual Keport 
(107.S) : and Third (Quarter Uejiort (O-months ended September .-Ml. i;»74). 

■-'William A. .Jordan, Comparisons of American and Canadian Airline Keffulation 2-10 
(a paper presented at tbe Societ.v of Government Economists sessions. Allied Social 
Sciences Association National Convention, December I'S, 1!)72). 

-Id. at:!-4. 

■"■■Id. at 4. Trans Canada Airlines Act. Stat, Can. c 4:! (19;!7). 

■■^ Statistics C.inida. .\viation Statistics C.'ii tr.'-Servicc Imlletin 1-lL' (April 197;^). Also, 
1 Official Airline (Jni.le s (.Xorth .\nierican lOdition. October If), 1974). 

•''' Comi);ire the ,."is.,-,iii) .Montr.MJ-Toronto (i&I) ii.isseuKcrs with those listed in appendix 
B. Note, interairport niileapres differ sliirlitlv from intercitv mileages. 

^ rue, supra, note 27, at 4. Also. CAB, .supra, note 1, at 4:>;!. 

^o William A. Jordan, supra, note 1, at 305. 



473 



would expect that increases in regulated Montreal-Toronto coach fares from 
1965 to early 1975 would be similar to the increases in CAB-authorized fares in 
the California city-pair. In contrast, PSA's fare increase for this period should be 
somewhat less since it was not clear until 1969 that entry into major California 
city-pairs had been closed by PUC regulation. Table 6 presents the fare data that 
test these hypotheses. 

TABLE 6.-C01V1PARIS0N OF PSA, CAB-AUTHORIZED AND CANADIAN COACH FARES i 

LOS ANGELES-SAN FRANCISCO VS. MONTREAL-TORONTO 

JUNE 1965 AND JAN. 29, 1975 







Coach fares i 




Percent increase June 
Jan. 1975 


1965- 




June 1965 




Jan. 29, 1975 
(Jet) 






Propeller- 
Jet 






City-pair and fare source 


Propeller 




Jet 


Jet-Jet 


LAX/BUR-SFO/OAK/SJC: 

PSA .__ 

CAB-authorized 


$11.43 
21.70 

23.00 
21.30 




$13.50 
23.70 

23.00 
21.30 


$19.21 
39.23 

37.00 
37.37 


68.1 
80.8 

60.9 
75.4 




42.3 
65.5 


Montreal-Toronto ATC/ATB-authorized : 
(Can$).... 

(US$)2 


60.9 
75.4 



1 Fares are used rather than prices (fares plus taxes) because of the different transportation taxes in the 2 countries. 
-' In 1965, the official exchange rate was $0,925 U.S.=$1 Canadian. In January 1975, it was about $1.01 U.S.=$1 
Canadian. 

Sources: Tables 2 and 3, Official Airline Guide(quick reference North American edition, June 1, 1965, and North American 
edition, Jan. 15, 1975). 

Comparisons of these data are complicated somewhat by the fact that Canada 
has never had a higher fare for jet service than for service provided on propeller 
aircraft, and by fluctuations in the exchange rates between the two currencies. 
Regardless of these factors, it is clear that regulated Canadian fares have been 
very similar to the CAB-authorized fares and have been much higher than PSA's 
fares both in 1965 and 1975. In 1965, about three quarters of all nonstop flights 
between Montreal and Toronto were provided by propeller aircraft (Viscounts 
and Vanguards)" and the U.S. dollar fare (paid by residents of the U.S.) was 
almost identical to the CAB-authorized propeller fare in Los Angeles-San 
Francisco. In January 1975. when only jet service was available in both city- 
pairs, a U.S. resident paid just $1.86 (4.7 percent) less to fly between Montreal 
and Toronto than he paid for interstate coach service over the same distance in 
the U.S. 

In terms of fare increases, PSA's very low propeller fare resulted in an increase 
from its propeller fare in 1965 to jet fares effective January 29, 1975 that is 
similar to the Canadian experience and somewhat lower than the CAB-authorized 
fare increase. However, when comparing fares for jet service in both 1965 and 
1975, PSA's fare increase is much smaller than both the CAB-authorized fare 
increase and the Canadian experience (whether based on Canadian or U S 
dollars). Indeed, in this case CAB and ATC/ATB regulation had very similar 
effects. Once more the evidence indicates that CAB-type regulation results in 
higher fares. 

Evidence from military airlift 

Prior to 1960, the Military Air Transport Service (now the Military Airlift 
Command) contracted for planeload movements of passengers and cargo on a 
competitive bid basis open to any carrier meeting the safetv and operational 
standards established by the Federal Aviation Agencv (now the Federal Aviation 
Administration). These carriers included the CAB-certificated airlines (trunk, 
international, local service, territorial, all-cargo and supplemental) plus the so- 
called 'part i.y carriers composed of operators of large aircraft who contracted 
their services to a single purchaser and thus did not engage in common carriage. 
As defined by the Federal Aviation Act of 195,S, these part 45 carriers were 
operating in air commerce rather than air transportation. As a result, they did 

"21 Official Airline Guide C-9 to C-IS (Nortli American edition, June 1965). 



474 

not have to have CAB-issued certificates of public convenience and necessity and 
the CAB had no control over their activities so long as they limited their activities 
to air commerce, including military airlift charters/" 

Because part 45 carriers could participate on Military Air Transport Service 
(MATS) contract operations without having to file tariffs or otherwise comply 
with CAB regulations, the CAB found it infeasible to control entry by certificated 
airlines into the military procurement market and to regulate rates. Thus, it gave 
blanket exemptions to all certificated airlines to participate in this activity at 
rates through the competitive bidding process/' This resulted in a monopsonistic 
market structure with one large buyer (MATS) and many independent sellers. 
Not surprisingly, military charter rates fell to low levels. 

The certificated airlines and the CAB found this situation to be undesirable 
and in 1958, when the annual growth rate of scheduled passenger traffic abruptly 
fell from 15 to zero percent," they prevailed upon I'resident Eisenhower to direct 
Department of Defense to undertake a study of the military role performed by 
MATS. This study resulted in a report completed in early 1900 entitled, "The Role 
of Military Air Transport Service in Peace and War." ^^ This report recommended 
nine courses of action, including action number five which proposed the procure- 
ment of commercial airlift be changed from competitive bidding by all FAA quali- 
fied carriers to the use of only CAB-certificated airlines thereby excluding part 45 
carriers) under tariff rates or through negotiated contracts.*® The courses of 
action were approved by the President on February 9, I960,*' and the DOD, the 
Air Force and MATS moved to implement action number five during the following 
months. Interim procurement procedures consistent with action number five were 
adopted for airlift contracts for the three-month period starting October 1, 
I960.*' 

The DOD's exclusion of part 45 carriers gave the CAB substantial power over 
military airlift procurement and the Board was quick to implement its new 
power. On June 24, 1960, the CAB Chairman advised the DOD that blanket exemp- 
tions would no longer be issued to certificated airlines allowing them to partici- 
pate in military contracts. Instead, only individual exemptions would be given 
to each airline whose contract complied with CAB policies.*" Thus, between 
August 1959 (when the last competitive-bid contracts were signed for service 
from October 1, 1959 to September 30, 1960) and mid-1960, entry into military 
airlift operations was abruptly closed to all except those CAB-regulated airlines 
complying with CAB policies. The effects on contract rates of this fundamental 
change soon became ai)parent. 

On August 5, 1960. the CAB Chairman advised the DOD that exemptions would 
not be granted to CAB-regulated carriers if round-trip contract rates were less 
than 2.9 cents per passenger-mile on a year round basis "[f]or plane load traffic 
in transatlantic and transpacific operations equivalent to economy type serv- 
ice. . . ." °° Since only passenger contracts were planned at that time, this single 
rate was suflficient. There followed considerable discussion and correspondence 
between the DOD and CAB concerning rates, and it was not until February 10, 
1961, that final rates were established for the remaining categories of inter- 
national traffic — to become effective no later than May 1, 1961. These initial 
CAB-authorized rates are summarized in table 7 and compared with tlie success- 
ful competitive-bid rates of August 4, 1959 — the last nonregulated rates utilized 
by MATS. 



«Spc. 101(3). (4). (10). (20). (21), (.".2), and (.33). 72 Stat 737. Also, 72 Stat 7o4, 
72 Stnt 758. and 72 Stat 760. ^ _ ^ 

"Whitney Gillilland. CAB Chairman, letter to Thomas S. Gates, Jr., Secretary of Defense 
(June 24, 1960). 

*'^ CAB, supra, note 1, at 24. ^ ^^ 

*5DOD. The Role of Military Air Transport Service in Peace and War, February 1960. 

4« Id. at .5-6. 

«■ Robert IT. Charles, Assistant Secretary of the -\ir Force, Address before the Aero 
Clnb of Washinston, March 26, 196S. 

^MIATS, Histoiv of the Implementation of Course of Action No. 5: The Role of MATS 
in Peace and War, Jan. 1, 1960-June 30, 1961 173-76, March 1962. 

*» \Vhitnev Gi'lilland. snnra. note 43. 

BO Whitney Gillilland, CAB Chairman, letter to Thomas S. Gates, Jr., Secretary of Defense 
(August 5, 1960). 



475 

TABLE 7.-C0MPARIS0N OF COMPETITIVE-BID RATES WITH CAB-AUTHORIZED RATES, 
CATEGORY B, INTERNATIONAL OPERATIONS 
AUG. 4, 1959 VS. FEB. 10, 1961 

Rate.<; CAB- 

— — ■ authorized 

percent 
greater than 
competitive- 
Service and area Competitive-bid Aug. 4, 1959 CAB-authorized Feb. 10, 1961 bid 

Round-trip passenger; 

Atlantic 2.08 cents per pax-mile ' 2.9 cents per pax-mile... 39 4 

Pacific 1.89' 2.9 2 53 4 

One-way passenger: 

Atlantic 4.2 cents per pax-mile s 

Pacific 4.2 2,3 

Round-trip cargo: 

Atlantic 13.75 cents per ton-mile' 

Pacific 13.752,3 

One-way cargo: 

Atlantic 21.89 cents per ton-mile ■ 22.5 cents per ton-mile 3 2.8 

Pacific 21.351 22.52,3 5.4 

Round-trip convertible: < 
Atlantic: 

Passenger 1.70 cents per pax-mile ' 2.9 cents per pax-mile 70.6 

Cargo 15.11 cents per ton-mile' 16.5 cents per ton-mile s 9.2 

Pacific: 

Passenger 2.24 . 2.9^ 29.5 

Cargo 16.54 16.52,3 -.5 

' Calculated on a weighted average of mileages and traffic for multiple origins and destinations as specified in the invita- 
tion for bid. 

■ Rates applied to Central Pacific mileages even though flights might actually be operated via North Pacific routings 
which were approximately !,000 miles shorter. 

3 By letter oated Dec. 5, 1960, the CAB set the following rates to be a basis, effective Mar. 1, 1961, for issuing military 
charter exemptions: 

Cents 
per 
pax- 
mile 

One-way passenger _ 5.2 

Round-trip cargo 14. 5 

One-way cargo . 27.5 

Convertible cargo 19.0 

On Feb. 10, 1961, these rates were superseded by those specified in the table to be effective no later than May 1, 1961. 
^ Passengers carried one way and cargo the other on a round-trip flight. 

Sources: Alan S. Boyd, CAB Chairman, letter to P. B. Taylor, Assistant Secretary of the Air Force (Feb. 10, 1961). Whitney 
Gillilland, CAB Chairman, letters to Thomas S. Gates, Secretary of Defense (Aug. 5, 12, 1960, and Dec. 5, 1S60). MAC, 
CAB-approved mileage as of Oct. 20, 1967 (n.d.) MAiS, Invitation for Bids 11-626-59-11 and 11-626-59-12 (July 8, 1959), 
and Abstract of bids tor these IFBs (Aug. 1, 1959). 

Again, the now familiar pattern emerges. The CAB-regulated rates for round- 
trip passenger service were 39 and 53 percent higher than the earlier nonregulated 
rates for such service, while the regulated rates for passenger legs of convertible 
flights were 30 and 71 percent higher than the nonregulated rates. At the same 
time, however, the differences in cargo rates were small or nonexistent. One 
possible reason for this could have been that about four times the ton-miles of 
cargo were moved in fiscal year 1962 than in fiscal year 1960.'^^ Thus, a relatively 
low trafllic volume in fiscal year 1960, divided between both the Atlantic and 
Pacific, could have resulted in high average costs and thus high comi>etitive-bid 
rates. Another rea.son, of course, could have been that MATS and DOD were able 
to convince the CAB to adopt relatively low cargo rates. The fact that the CAB 
originally set the one-way cargo rate at 27.5 cents per ton-mile (about 28 percent 
higher than the competitive-bid rates) lends credence to that possibility.^- But, 



=1 In fiscal year 1960, cargo accounted for about $12. .3 million (21. .3 percent) of category 
B passenger and cargo revenues totaling .$.58.7 million. In fiscal year 1962, cargo com- 
prised .$55.4 million (48.5 percent) of the $114.2 million total. Since cargo rates were 
about the same in these two periods, changes in cargo revenues approximate changes in 
ton-miles of traffic. (MATS, Historical Background of MATS' Commercial Airlift Opera- 
tions, fiscal years 1960-64 12, 14 (n.d.).) 

=2 Whitney Gillilland, CAB Chairman, letter to Thomas S. Gates, Secretary of Defense 
(Dec. 5, 1960). 



476 

then, both these and other reasons may be applicable. 

It is only proper to point out that the CAB lowered its approved rates starting 
in 1962 and continuing to 1967-68, before inflationary pressures reversed the 
trend. Round-trip passenger rates, for example, fell to 1.75 cents per passenger- 
mile for standard jets and 1.66 cents per passenger-mile for stretched jets.°'' AVith 
some adjustments for the relatively low inflation of that S-year period, it can be 
seen that these rates are significantly lower than the competitive-bid rates of 
1959. It should also be recognized, however, that these rates were achieved with 
unusually high trafiic flows over extremely long-hauls to Vietnam and other 
points in the Pacific, and that jet aircraft have experienced substantially lower 
operating costs than the piston aircraft that provided most contract services prior 
to the early 1960's. With regards to this latter point, it should also be noted that 
CAB-approved rates for round-trip passenger service on piston aircraft have never 
fallen below 2.55 cents per passenger-mile.^* 

Summary 

It is remarkable how consistent the evidence from these four cases has been. 
The large amount of cross-sectional evidence from the California experience is 
supported by similar evidence from Texas and Canada, as well as by time-series 
evidence from the most recent years in California, from Canada, and from mili- 
tary airlift procurement. Where entry has been possible and airlines have been 
able to introduce new or lower fares without regulatory constraint, airline fares 
have been low. Where regulation has served to close entry and fares have been 
controlled, fares have been much higher. Indeed, in most cases regulated fares 
have been 50 percent or more above nonregulated fares, and differences of over 
100 percent have been common. 

These consistently large fare differences are not explained by factors such as 
whether, airport congestion, trafiic density, and so forth. Of course, cold and snow 
for 5 months or so each year increase the resources required for ground handling ; 
and fog, snow and rain delay flights at various times, as does aii-port congestion. 
The.se factors all increase costs somewhat, but not by 50 to 100 percent over costs 
in nonregulated city -pairs which also experience weather and congestion prob- 
lems. However, should weather and airport congestion influence costs appreciably 
in particular interstate city-pairs, and if CAB-authorized fares are supposed to 
lie cost based, why aren't CAB-authorized fares lower for city-pairs where 
weather is generally good and airports are free of congestion? The fact is that 
these cost differences are relatively small and thus it is infeasible to adjust the 
present rigid fare structure to reflect them. 

Tratfic density is certainly a relevant factor in average costs per passenger- 
mile and thus fares. This was reflected in the higher fares charged by the intra- 
state carriers in minor California city-pairs as opposed to the major city-pairs. 
But beyond a certain threshold level of, say, 100,000 true O&D passengers per 
year, differences in costs per passenger-mile are sniall.^" Here again, it should 
be noted that the CAB makes no allowances for trafiic density in its basic fare 
formula. 

In the new cost-based coach-fare formula to be implemented on April 29, 1975, 
the CAB has established a terminal charge of $13.85 and various line-haul charges 
starting at 7.79 cents per passenger-mile for the first 500 miles.'"' Implicit in this 
"cost-based" formula is the belief that it costs the average CAB-regulated airline 
$13.85 merely to attract a passenger, process his reservation and issue a ticket, 
enplane him, takeoff and then immediately land at the same or an adjacent air- 
port, and then deplane the passenger. All this regardless of whether the airport 
is large, small, congested, has bad weather, or whatever. In sharp contrast PSA 
will do all this plus fly a passenger 159 miles (Fresno-San Francisco) for $12.73, 
that is, for $1.12 less than the CAB's terminal charge.^" Similarly, in Texas, South- 



^^ CAB, supra, note 1, at 597-99. 

■'■■'Id. The current round-trip passenger rate for jet aircraft is 2.84S cents per passenger- 
mile. CAB press release 7.5-1.") (.Tan. 17, 197.5). 

■"•"The threshold traffic level for a city-nair depends on many related factors such as 
distance, aircraft size required to operate efficiently over that distance, existence of alterna- 
tive transportation services, the nuniher of other fiisihts servinp: each airport in the city- 
pair, the amount of complementary conneetin? traffic, and so on. 100,000 true O&D 
passengers ner year would yield an average of 274 per day which, alone, would provide a 
fiO-percent load factor for four one-way flights provided with 115-seat aircraft. In 1972, 
the 100th largest city-pair was New York-Norfolk with 186,000 true O&I) passengers 
(annendix B). 

^ CAB order 74-12-109 (Dec. 27, 1974>. 

S'PUC decisions 83814 (Dec. 10, 1973), 83918 (Dec. 30, 1974) and 83939 (Dec. 30, 
1974). 



477 

west Airlines will provide terminal services and then fly a weekend or night- 
coach passenger from 19.: to 253 miles for ,$13.W) ($15.00 including tax), almost 
identical to the alleged cost of a CAB-regulated airline's brief "sightseeing" flight. 
There are indeed fundamental differences between CAB-regulated airlines and 
the successful intrastate carriers ; and these difl'erences stem from regulation 
which serves to close entry, provide a mechanism through which agreements can 
be reached regarding fares and other matters, and facilitate the low-cost (to 
the airlines) enforcement of such agreements. 

CAB REGULATION HAS DECREASED AIRLINE EFFICIENCY 

If the fares and rates of the certified airlines have been increased so much 
by CAB regulation, why haven't these airlines made consistently large profits? 
Of course, at various times since 1938, most of the trunk carriers have enjoyed 
substantial profits and a few of them, such as Delta, Northwest and Western, 
have had quite good and relatively consistent profit records.'^ On the whole, 
however, the profits of the entire regulated industry have been less than spec- 
tacular and certainly lower than would be expected from the higher fares re- 
sulting from regulation. 

The fundamental reason for the surprisingly poor profit performance of the 
certificated airlines is that, while increasing airline prices, CAB regulation has 
also greatly increased airline costs. Three of the major sources of these higher 
costs appear to be: 1) imperfections in CAB regulation which promote intense 
service-quality (rather than price) rivalry among the airlines; 2) regulatory 
entry restrictions which require each of the relatively few certificated airlines to 
provide a diversity of services ini3tead of being able to specialize in an opera- 
tionally homogeneous service pattern; and 3) the assistance that entry restric- 
tions give monopolistic or oligopolistic airline suppliers in capturing larger 
portions of the airlines' gains by increasing the prices the airlines must pay for 
their inputs (especially labor). These three factors — carrier rivalry, decreased 
specialization, and increased input prices — will be examined below. 

Candler rivalry 

While the CAB has full discretionary power over entry and exit, under the 
Federal Aviation Act of 1958 (as well "as the earlier 1938 act) it has had only 
limited direct power over the quality of service provided by the airlines.^." In 
addition, it has been slow to influence service quality through indirect means 
such as promoting capacity agreements and conditioning its approval of fares 
on modifications of service qualitj^.™ Thus, CAB regulation has been asymmetric 
or "imperfect," with complete control in some areas and little control in other 
areas. 

The effects of this asymmetric regulation have been amplified by the Board's 
failure to allocate predetermined shares of industry revenues and profits to each 
carrier. Speciticnlly, it has authorized two or more airlines to operate over 
cA-ery major interstate route and between every major city-pair without assign- 
ing traffic shares in each city-pair. Therefore, great rivalry has developed between 
the certificated carriers as they seek to retain or increase their traffic shares.*^ 
Since CAB regulation requires cooperation and agreement in setting prices, this 
rivalry has long been channeled toward the area of service quality. Operationally, 
this has meant that each carrier in a miilti-carrier city-pair has endeavored to 
operate more frequent flights with the fastest, most modern and comfortable 
aircraft, while providing elaborate in-flight services and superior ground services. 
The following analysis indicates some of the effects that such service-quality 
rivalry can have on the costs of regulated airlines. 

An airline's most important physical asset is its aircraft and related equip- 
ment. As of June 30, 1974, flight equipment accounted for over 84 percent of the 
nondepreciated value of the total operating property and equipment of all CAB- 
certificated route air carriers."- Obviously, if CAB-induced service-quality rivalry 



^'' CAB, supra, note 1. at 411. 

^"William A. Jordan, supra, note 1, at 2-4. 

""■William A. Jordan. Airline Capacity Agreements: Correcting a Regulatory Imper- 
fection. .39 Journal of Air Law and Commerce 19.3-205 (snrinR 197.3). 

"1 In addition to the effects of multi-carrier authorizations on service-quality rivalry, 
there is no indication that the CAB has made route awards to the carrierfs) able to 
provide the optimal level and quality of service at the lowest marginal cost. Unless low- 
cost carriers are authorized to provide new services, the total and average costs of air- 
line onerations are increased over minimum attainable levels. 

«=CAB, Air Carrier Financial Statistics 53 (June 1974). 



478 

results in excessive numbers of aircraft being purcliased and then being under- 
utilized, the costs of regulated airline operations will be increased. Evidence on 
this point can be obtained by comparing the aircraft utilization by the CAB- 
regulated trunk carriers with that of the California intrastate carriers between 
1949 and 19G5. The California carriers could, of course, undertake rivalry both 
by reducing fares and by increasing service quality, while the regulated trunk 
carriers were largely constrained to service-quality rivalry. Not surprisingly, the 
record of this period demonstrates that price rivalry was indeed very important 
within California in sharp contrast to the emphasis on service-quality rivalry 
by the CAB-regulated airlines."'' 

The following four measures can be used to determine the overall intensity 
with which aircraft are utilized : 

1. The average number of revenue hours per day that each aircraft is operated 
(a measure of airframe utilization). 

2. The number of seats installed in each aircraft type for a given class of 
service (indicating the extent to which the aircraft's interior is utilized). 

3. The average passenger load factor (which measures the degree to which 
the installed seats are utilized). 

4. The total number of years each aircraft is operated (measuring the length 
of time this resource is utilized, as well as indicating the flow of resources re- 
quired to maintain some given stock of aircraft over time). 

It happens that the successful California intrastate carriers operated their 
aircraft about the same number of hours per day as the trunk carriers (and some- 
what more than the local service carriers), so there is little difference in effi- 
ciency in this respect, unless detailed adjustments are made to compensate for the 
intrastate carriers' shorter stage lengths."* yigniflcant differences did exist, how- 
ever, in the number of seats installed per aircraft, in passenger load factors, and 
in aircraft life. 

Two factors are relevant with regard to numbers of seats installed. First, no 
intrastate carrier operated first-class service from 1949 to 1965 and, therefore, 
never provided the low-density seating associated with that high-(iuality si'rvice. 
Second, when comparing identical aircraft types in all-coach coiifi.mirations, one 
finds that the intrastate carriers generally managed to install more seats. I'sually 
the differences were in the order of 5 to 10 percent, but there was one case of a 
24 percent increase and a few others with differences of only 1, 2 or 3 percent.""' 
Combined, these two factors have resulted in the intrastate carriers utilizing 
their aircraft appreciably more than the CAB-regulated airlines, simply by put- 
ting more seats in each aircraft. 

Even with more seats per aircraft, the California intrastate carriers usually 
managed to fill an appreciably larger percentage of them and thus have higher 
coach load factors than the certificated airlines. The exceptions all occurred 
between 1949 and 19.53 when the trunk carriers' coach service was very limited 
and was mainly provided in long-haul city-pairs while, the intrastate carriers 
operated only in short-haul city-pairs and were experiencing their initial period 
of extensive entry and exit (with failing carriers having low-load factors). For 
that five-year period the trunk carriers' average coach load factor was 73.9 
percent compared with 69.8 percent for the intrastate carriers. In every .subse- 
quent year, howevei-, the California intrastate carriers' annual average load 
factor exceeded the coach load factor of the trunk carriers by amounts ranging 
from 1.0 percentage point in 1954 to 17.9 percentage points in 1963. From 1955 
through 1964. the annual average load factor for all intrastate carriers com- 
bined never fell below 70 percent and it reached a high of 80.6 iiercent in 1957. 
Their 12-year weighted average load factor was 71.2 percent compared with 
only 59.1 percent for the trunk carriers' coach operation."" Some might argue 
that these differences resulted from the high tratfic densities in the three major 
California city pairs. But a detailed comparison of the scheduling practices of 
the two carrier groups in those city pairs demonstrates that the successful 
intrastate carriers' higher load factors were due to management decisions. 
Specifically, the intrastate carriers' adjusted their .schedules to conform more 
closely with traffic fluctuations than did the trunk carriers."'^ 



«3 William A. Jordan, supra, note 1, at .34-72. 
«* Tfl. at 197-99. 
^^ Tfl. at 199-201. 
«« Id. at 200-.'?. 
67 Id. at 203-9. 



479 

Finally, during much of this period the California intrastate carriers mainly 
operated older, obsolescent aircraft that they purchased from the trunk car- 
riers or from governments surplus stocks. Thus, they served to extend the pro- 
ductive lives of these aircraft, thereby increasing their utilization and economic 
efficiency. This increased efficiency was reflected in the low prices the intrastate 
carriers paid for their aircraft which, in turn, served to lower their costs. Had 
the CAB-regulated airlines been allowed to adopt prices lower than those 
authorized by the CAB, they too could have used such aircraft in low-fare serv- 
ice, but so long as price rivalry was prevented by regulation it was desirable 
for the trunk carriers to concentrate on high-quality service and thus retire their 
aircraft relatively early.^ 

The above experience is what happened with piston-powered aircraft through 
the 1950s and into the early 1960s. The turbine-powered aircraft innovation was 
different in that these aircraft provided a happy combination of lower operating 
costs and superior service quality. This indicates that such aircraft would have 
been adopted quite early by all airlines regardless of regulation. Not surpris- 
ingly, PSA inaugurated turbine-powered Electra service less than eleven months 
after the first trunk carrier, and it adopted the medium-range Boeing 727-100 
fifteen months after that aircraft first flew in scheduled service.^" It was those 
aircraft that provided somewhat higher service quality at higher costs (such as 
the DC-7, the L-1649) that were fathered by CAB-regulation and which would 
probably not have been developed without such regulation. 

The implications of these differences in aircraft utilization can be illustrated 
by the following example. The trunk carriers' 1973 system load factor was 52.4 
percent and, with the operational adjustments related to the fuel crisis, it rose 
to about 56 percent in 1974.™ Also, the service life of a turbojet aircraft is com- 
monly thought to be around 14 years. Now, the California exiierience indicates 
70 percent load factors are feasible without regulation and that aircraft with 
low operating costs would have longer lives without regulation than with regu- 
lation. A 70-percent load factor is 25 percent higher than the 56-percent load 
factor of 1974 (and 34 percent above the 52.4-percent load factor in 1973), and 
applying a similar 25-percent extension to a 14-year aircraft service life would 
bring it to 17.5 years. Increasing the average load factor by 25 percent means 
that the trunk carriers' present traffic volume could be carried by SO percent of 
their existing fleet, that is, by about $9.8 billion worth of aircraft rather than 
the $12.25 billion (undepreciated value) in existence as of June 30, 1974.'^ 
17.5 years, the annual replacement rate would be in the order of $560 million 
($9.8 billion-=-17.5) rather than the $875 million rate required to replace the 
current fleet every 14 years ($12.25 billion-^14). This would be a saving of 
roughly $315 million per year, or about $1.90 per passenger enplanement.''- 

The above calculations are quite rough and ignore the fact that increased 
seat density without regulation would result in further reductions in the fleet 
size required to carry existing traffic. Furthermore, while important, aircraft are 
just one item of airline costs. A 25-i>ercent increase in load factor also implies 
a 20-percent decrease in the number of flights which means fewer flight per- 
sonnel, less fuel consumption, lower maintenance costs, smaller landing fees, 
and so forth. Clearly the cost differences would be large. One can begin to see 
how emphasizing service-quality rivalry increases the costs of the CAB-regulated 
airlines. One can also begin to see why the successful intrastate carriers have 
been able to survive and profit under fa-res much lower than those authorized 
by the CAB. 
Decreased specialization 

When relatively unregulated, the intrastate carriers have been characterized 
by operational simplicity and homogeneity. Generally speaking, each carrier 
has operated only one aircraft type at any point in time (except for brief tran- 
sitional periods), offered only one class of .service (coach), and operated be- 
tween cit.v-pairs that provided traffic flows and stage lengths compatible with 
the chosen aircraft type. Some of the carriers, such as Mercer Enterpri-ses and 
Holiday Airlines, have served recreational communities or activities where low 



"« Id. at 209-10. 

o" Id. at 40-44, .5.5-.56. Also. CAB. supra, note 1. nt 3.52. 

•" CAB, Air Carrier Traffle Rtati.'^tics 1 (Dec lOT.S), and 2 (Sept. 1974). 

" CAB. snnra. note fi2. at •">."). 
Furthermore, if this smaller number (value) of aircraft were replaced every 

"2 Total system tnrnk revenue passenjrpr enplanements for the year ended September .30. 
1974, was 166,7.30,000. CAB, supra, note 70, at 2. 



480 

trafl5c densities exist. Others, like PSA and Southwest, have operated between 
large cities having high traffic densities. To this day, PSA, the largest of the 
intrastate carriers, serves only 11 airports while, prior to 1965, it never served 
more than five airports at one time. Similarly, Air California now serves 
eight airports. Holiday seven, and Southwest three." Overall, the intra- 
state carriers have customarily been quite small. Only one (PSA) has 
ever operated more than a dozen aircraft at one time (three to six aircraft has 
been the usual fleet size), and they have consistently had very simple fare 
structures and procedures. All this has allowed each employee to become inti- 
mately familiar with his work. Pilots, for example, spend large parts of their 
professional lives flying only one aircraft type between just a few airports. In 
the same way, the work of employees engaged in maintenance, engineering, sched- 
uling, reservations, accounting, etc., are all simplified, and managers can become 
intimately acquainted with the carrier's traffic and operational features. 

Contrast this to the trunk carriers at the end of 1972. The smallest number 
of U.S. and foreign cities served by any carrier was 37 (Western) while the 
largest number was 89 (United). The number of certificated route miles ranged 
from 10,821 (Western) to 38,968 (TWA), and the trunk fleets ranged from 
60 aircraft (Continental) to 388 (United) with each carrier operating several 
different types of aircraft.'* Even the local service carriers were geographically 
large and diverse in comparison with the intrastate carriers. In December 1972 
each of them between 50 and 95 cities connected by 3,660 to 8,295 certificated 
route miles, and each operated 33 to 133 aircraft." Even brandnew Air New 
England has been authorized to serve 14 cities located throughout New Eng- 
land." The operational problems and complexities faced by these certificated air- 
lines are much greater than those of the intrastate carriers, and the associated 
decrease in specialization translates into less output per employee. 

Rough indications of the effects of specialization on airline productivity may 
be obtained by comparing the 1965 average annual output per employee of the 
total trunk carriers as a group and of Western Air Lines (one of the more 
productive of these carriers) with that of PSA. 1965 was, of course, the last year 
of relatively unregulated operations in California, and it was also the year that 
PSA introduced jet aircraft and thus operated a fleet whose composition was 
very similar to that of the trunk carriers." Two of the productivity measures 
will be available seat-miles (ASM) per employee and revenue passenger-miles 
(RPM) per employee. It happens that these two measures are biased against 
the certificated carriers because they provided relatively more cargo service 
than PSA which served to inflate their number of employees without increasing 
their ASM and RPM figures. Therefore, to provide balance, operating revenues 
per employee will also be given with the recognition that this measure is biased 
against PSA since its lower fares required more physical output per dollar of 
revenue. The data for Western Air Lines are particularly useful, both because 
they indicate the range of trunk carrier productivity and because a substantial 
portion of its total operations were entirely or partially within California which 
may yield increased comparability with PSA's data. The comparisons are given 
in table 8. 

TABLE 8.-AVERAGE ANNUAL OUTPUT PER EMPLOYEE (PSA COMPARED WITH TOTAL TRUNK CARRIERS AND 
WESTERN AIR LINES), 1965 





Output per employee 




PSA percent gre 
Total trunks 


ater than 


Output measure 


Total trunks 


Western 


PSA 


Western 




603,000 


769, 000 
431, 000 
$26, 100 


1, 270, 000 
804, 000 
$32, 500 


111 
141 
46 


65 




. ... 333,000 


87 


Operating revenues 


$22, 200 


25 









Source: William A. Jordan, Airline Regulations in America), 215, 217, 219 (1970). 



"PUC. Present and Pronosed Route Structures of California Certificated Air Carriers 
and Routes Onerated bv CAB Certifleated Air Carriers as of July 1, 1974. lA. 10. 15A 
(n.d. ). .Vise, Southwest Airlines, Third Quarter Report (nine months ended Sept. 30, 
1974). 

"!* CAB, supra, note 1, at 1-2. 

'5 Id. 

7« CAB press release 75-18 (.Tan. 23, 1975). . , ,. ^ .^ 

"1965 was neither the hest nor the worst year for PSA's productivity re'ative to the 
certificated airlines. While its jet operations increased total output, between April and 
AuKust its total number of employees increased from 575 to 740 persons. William A. 
Jordan, supra, note 1, at 339-40. 



481 

Again, large differences can be seen to have existed between the performances 
of the certificated trunk carriers and PSA. After talcing account of the biases in 
the measures, it appears that in 1965 PSA's output per employee was about 100 
percent larger than the average for all trunk carriers, and almost 60 percent 
larger than Western's output per employee. Of course, the certificated airlines 
provided higher quality service (including first-class service), operated many 
conveniently located ticket offices, were engaged in regulatory activities, and .so 
forth, all of which would decrease employee output as measured in table 8. At the 
same time, their much larger and diverse route structures added complexity to 
their operations. Combined, these factors decreased employee productivity in 
terms of fundamental output measures. Here is yet another reason why the suc- 
cessful intrastate carriers v.-ere able to survive while charging appreciably lower 
fares than the CAB-regulated airlines — their specialized operations simply 
yielded more output per employee. 

Increased input prices 

The earlier analysis of carrier rivalry has shown that the regulation-promoted 
emphasis on service-quality rivalry has served both to increase the total .stock of 
aircraft operated by the airlines and to decrease their utilization by installing 
fewer seats, operating at lower load factors, and retiring them at relatively early 
ages. Since the end of World War II there have been three major reequipment 
cycles — starting in 1946 with pressurized aircraft, then turbine-powered aircraft 
in 1958 and, finally, wide-bodied aircraft in 1970 — each with several phases in 
which improved versions of the basic innovation were developed. Given the 
emphasis on service-quality rivalry, it has been essential that each CAB-regulated 
airline operate the mo.st modern equipment, and thus each new aircraft type has 
been adopted quickly and extensively by the regulated airlines with a concurrent 
replacement of existing aircraft.™ 

Clearly, the above .situation has resulted in greatly increased demand for new 
aircraft and this has benefited the aircraft and engine manufacturers over what 
they would have experienced without CAB regulation. At the same time, the 
increased variety of airci-aft produced has re.sulted in higher costs of production. 
Economic theory (and common sense) predicts that increased demand for a good 
combined with increased costs of producing that good will result in higher equi- 
librium prices regardless of whether the market structure is competitive, oligop- 
olistic or monopolistic. Thus, there is every theoretical reason to expect aircraft 
prices have been increased as a result of CAB-regulation. Actually, it is difficult 
to imagine how the 1938 and 1958 acts could have been written and implemented 
to promote greater demand for the products of the aircraft and engine manufac- 
turers at the expense of the airlines and, through them, those consumers of air- 
line services who value lower prices relatively more than very high service- 
quality.™ 

By prohibiting the entry of new airlines, CAB regulation has also greatly bene- 
fited airline employees. The employees of CAB-regulated airlines know that they 
can obtain higher wages or more co.stly work rules without fear of having some 
new or existing airline enter and destroy their company and their jobs through 
price rivalry supported by lower labor costs. They also know that should their 
company happen to fail it would be merged with another CAB-regulated airline 
whereupon the CAB's labor-protective policies would result in their obtaining 
similar jobs in the merged company or "receiving sub.stantial termination pay- 
ments.'" Furthermore, where a union provides the only source of labor of a certain 
category for most of the industry (pilots, for example), or where labor can other- 
wise act industry-wide, they know that the airlines can transfer a large portion 
of above-market wage demands to airline customers simply by agreeing on price 
increases with their fellow carriers through CAB procedures. The overall result 
of these factors appears to be ever higher labor costs for the regulated airlines. 
Evidence pertaining to the.se factors is fragmentary, but significant. In recent 
studies of the trunk and local service carriers, the CAB found that total labor 
costs in 1973 comprised 45.7 percent of total operating expenses for the trunk 
carriers and 48.9 percent for the local service carriers." In contrast, in informa- 



™ William A. Jordan, supra, note 1, at 36-44. .\lso. William A. Jordan, exhibit DJ-RT-1, 
13-21 (testimony submitted in the American-Western merger case, CAB docket 22916, 
June 25. 1971). 

■^ William A. Jordan, supra, note 1, at 230-33. 

so CAB order 72-4-31/32 (March 28, 1972), at 18-33. 

"1 CAB, Productivity and Cost of Employment, System Trunks, Calendar Years 1972 and 

73, 8 (Sept. 1973). Also, CAB press release 75-13 (Jan. 16, 1975). 



51-146 O - 76 - pt. 1 - 32 



482 

tion submitted to this subcommittee, Air California advises that for the eleven 
months ended November 30, 1974, wages and executive salaries totaled just 26.1 
percent of its total costs.**" Similarly, Southwest reports these labor categories 
accounted for only 28.37 percent of its total costs for the 10-month period ended 
October 30, 1974.'' 

Factors other than regulation probably influenced the above percentages. For 
example, it appears that the two intrastate carriers included interest expenses 
in their total costs while these are not part of the CAB-defined operating expenses. 
However, adding interest expenses to the certificated carriers' operating expenses 
merely brings their labor costs to 44.3 percent (trunk) and 47.2 percent (local 
service) of the expanded total.** Another possible cause of these differences in 
labor's share of total costs is that both Air California and Southwest are young 
companies with relatively low seniority costs. Actually, the percentage differences 
are too large to be accounted for by such adjustments. Instead, they are consist- 
ent with the prior evidence that the employees of small, specialized airlines are 
more productive than the employees of CAB-regulated airlines, and with the hy- 
pothesis that regulation allows employees of certificated airlines to obtain higher 
wages for all categories of workers. 

The only California intrastate carrier to be unionized prior to 1965 was Cali- 
fornia Central — the largest and most important of the California airlines from 
January 1949 until it was adjudged bankrupt in February 1955. Both its pilots 
and mechanics were unionized, and a 37-day strike by the mechanics occurred in 
July and early August 1953. It appears that this strike and the subsequent wage 
increase reduced California Central's ability to operate effectively against its 
low-fare rivals (including PSA). In January 1954, just six months after the 
strike, it initiated the bankruptcy proceeding that eventually resulted in its 
demise.^ 

It also appears relevant that PSA was never unionized until early 1971 when 
its station personnel voted to be represented by the Teamsters Union.®" While 
initially voting against union representation, PSA's mechanics eventually also 
joined the Teamsters and in November 1973 carried out the first strike ever insti- 
gated against PSA.^ While far from conclusive, it should be noted that these 
actions followed the PUC's effective closure of entry into the major California 
city -pairs during the period ending in late 1969. 

The above analyses pertain to the airlines' two most important types of in- 
puts — aircraft and labor. Similar analyses could be made regarding suppliers 
of other inputs such as airports, petroleum products, supplies used in in-flight 
services, etc. Enough has been said, however, to indicate how regulation can act 
to increase the prices and quantities of inputs utilized by the CAB-regulated air- 
lines in providing their high-quality services. 

Summary 

CAB regulation has served to decrease airline eflSciency and. thus, increase 
airline costs. It has done so by closing entry and then by providing an environ- 
ment which encourages the certificated airlines to undertake extensive service- 
quality rivalry among themselves for larger shares of traflic, revenues and, hope- 
fully, profits. As a result, the CAB-regulated airlines purchase excessive numbers 
of very costly aircraft and then under-utilize them ; they operate over large and 
diverse route structures which decrease specialization and increase operational 
complexities, and which are associated with significantly lower employee produc- 
tivity ; and, finally, they pay higher prices for the larger quantities of inouts 
that are required for their high-quality services. 



All U.S. airlines must comply with the safety and operational regulations of 
the Federal Aviation Administration. Thus, the question is, given FAA regulation, 
does the economic regulation of the CAB significantly influence airline safety? 
The evidence on this point is unclear. 



»- R. W. Clifford, president, Air California, Letter to Senator Edward M. Kennedy, 
attachment (Dec. 19, 1974). 

'*•'' M. Lamar Muse, president, Southwest Airlines, Letter to Senator Edward >L Kennedy. 
20 (Jan. 3, 1975). 

^ CAB, Air Carrier Financial Statistics, 1, 4 (Dec. 1973). 

ss William A. Jordan, supra, note 1, at 183-S4. 

88 PSA, First Quarter Report (ending Mar. 31, 1971). 

87 The Wall Street Journal, 16 (Midwest edition, Nov. 19, 1973). 



483 

The California intrastate carriers have experienced two fatal accidents. On 
December 7, 1949, a California Arrow DC-3 crashed near Vallejo, California, 
killing six passengers (including the wife and son of the airline's owner) and 
three crew members." Then, 14 years later on March 1, 1964, a Constellation L-049 
of Paradise Airlines crashed near Lake Tahoe, killing 81 passengers and foui 
crew members.*'* These two crashes resulted in a passenger fatality rate of 2.67 
passengers per 100 million revenue passenger-miles for the California intrastate 
carriers from 1949 through 1965, compared with a rate ot only 0.45 fatalities per 
100 million revenue passenger-miles for the trunk carriers and a rate of 0.92 for 
the local .service carriers for these same years.'" Proponents of CAB regulation 
could well use these results to conclude that CAB regulation has indeed increased 
airline safety. 

In opposition to this position, proponents of decreased CAB regulation could 
point out that, because of the relatively small number of revenue passenger-miles 
provided by the intrastate carriers, the Paradise crash had an inordinate and 
statistically nonpredictive effect on the data ; "' that the short stage lengths of 
intrastate operations increa.se the probability of crashes aue to the high exposure 
resulting from frequent takeoffs and landings (note the local service carriers' 
higher fatality rate) ; and that there have been no other crashes of intrastate 
carriers (either in California or Texas) so that the 1949-74 fatality rate would 
be very much lower than the 1949-65 rate. 

It happened that both California Arrow and Paradise terminated intrastate 
operations shortly after their crashes. California Arrow transferred its remaining 
aircraft to irregular interstate service, while the FAA suspended and then refused 
to renew Paradise's operating certificate. Thus, in each case a fatal accident 
imposed substantial economic penalties on the intrastate carrier. No CAB- 
regulated airline has borne similar penalties following a crash. In fact, the CAB's 
economic regulation may even prevent the full application of sanctions otherwise 
applicable under federal .safety regulations or available to consumers. With 
respect to service termination, if a carrier ix»ssesses a CAB certificate of public 
convenience and necessity, does the FAA really have the power to suspend its 
operating certificate following one or more fatal accidents, or are the FAA's 
corrective powers actually limited to fines, increased surveillance of operations, 
etc.? In terms of consumer choice, .since carriers with low passenger fatality rates 
are prohibited by the CAB from quickly extending operations over the routes of 
a carrier having a relatively high fatality rate, do air travelers have as many 
opportunities under CAB regulation to express their concern over a carrier's 
poor safety record by using other carriers having superior records? 

Regardless of one's opinion on this matter, the complete absence of fatal acci- 
dents by PSA during 16 years of unregulated operations (and continued now 
under increased regulation), and by California Central during .six years of opera- 
tions, does indicate that economic regulation is not a necessary condition for 
airline safety. At the same time, the varying experiences of individual certificated 
airlines .show that such regulation is not a sufficient condition for superior safety 
performance. 

CONCLUSION 

There is strong evidence that CAB regulation has reduced entry into the 
airline industry, resulted in exit occurring only through acquisition and merger, 
and has caused fares to be much higher than they would be without regulation. 
One would think this would have been very beneficial to the regulated airlines 
and that they would have enjoyed consistently high profits. Unfortunately, the 
recurrent crises and low profits of most regulated airlines demonstrate that such 
has not been the case, and the reason for the airlines' problems can also be 
attributed to the CAB's regulatory policies and procedures. By motivating air- 
lines to purcha.se excessive numbers of aircraft and then underutilize them by 
requiring them to operate diverse services thereby reducing specialization and 
lowering employee productivity, and by providing an environment where larger 
amounts of inputs are purchased at higher prices, CAB regulation has increased 

The£i''.^n'|Jles"'limeJ:\''(D;Y.t^ ^'""'"''" ^'^" '''^^>' "^ ^-^"^- ^^^l)' ^'^»' 

^ wnn'nm '"a^'V" A^'""'^*'"* Report. 1-2 (SA-.378, file 1-002, July 12, 1965, proces.sed ) . 
"" WlUlam A. Jordan, supra, note 1, at 49-.53 -^ < > i- i 

carried'" hv^^th'rPnWf^'^ •'^''^ '?' V'"!" ""e-half of 1 percent of all revenue passenser-mlles 

l^r^^ntlUZ\:tll%7i'^.^'^^^^^^ '''' *° l^^^' ">-' -^<^ounte6 for 93 



484 

airline costs as much as it has increased fares. Indeed, regulated fares 50 to 100 
percent higher than nonregulated fares have been accompanied by emp oyee 
productivity 40 to 50 percent lower than the most successful of the nonregulated 
intrastate carriers. This, of course, indicates a fundamental fallacy in the Board s 
policy of basing fares on regulated airline costs. 

Rather than the airlines themselves (or their stockholders) being the prime 
beneficiaries of CAB regulation, the major beneficiaries appear to have been 
airline employees, aircraft and engine manufacturers (and their stockholders 
and employees), and suppliers of all the other inputs utilized by the regulated air- 
lines Passengers who value high-quality airline service relatively more than 
other goods and passengers who do not pay for their air travel, have also 
benefited from the high-quality service flowing from CAB regulation. Passengers 
who, in contrast, prefer low-price and somewhat lower-quality service have been 
harmed, either by having to pay higher prices for airline services or by using less 
preferred means of travel, or by not traveling at all. Also harmed through having 
to pay higher prices or higher taxes are the many consumers of goods and services 
produced by firms or government agencies utilizing air transportation in their 
production and/or distribution activities. 

Clearly, the present type of airline operation flowing from CAB-regulation is 
very inefficient, including substantial inefficiencies in fuel consumption. Assuming 
economic efficiency in a world of scarcity is desirable, this inefficiency may be 
rectified in one of at least two ways. The first way is to eliminate the imperfec- 
tions of current CAB regulation by placing every aspect of airline operations 
under the direct control of the CAB. The aim would be to increase efficiency by 
eliminating service-quality rivalry. It would be a pure cartel attempting to 
maximize airline profits, or other goals, in a world of uncertainty. Of course, 
some individuals would be harmed by this alternative. The elimination of service- 
quality rivalry would result in decreased demand for personnel, aircraft and 
other inputs, and would reduce service-quality with little or no reduction in 
general fares. This alternative may be attractive to many airline stockholders 
and managers, but it has drawbacks over the long-run (say, 10 to 20 years). First 
of all, those employees still working for the airlines (and other airline suppliers) 
would endeavor to capture ever larger shares of the higher profits and, given 
their own monopoly powers, would be successful in so doing. Second, higher 
fares and decreased service quality would provide great motivation and many 
opportunities for innovators to develop new substitute services to attract the 
airlines' traffic from them. An historical example of such an occurrence is the 
way the motor carriers have been able to divert large amounts of traffic from the 
railroads. Third, the administration of this cartel would doubtless be cumbersome 
and slow to adjust to changes. So long as airline demand continues to grow, this 
first alternative will remain viable. It will, however, be very vulnerable to 
innovations or to a secular decline in demand. 

The second way to eliminate airline inefficiency stemming from CAB regulation 
is to abolish entry control and to allow any airline to lower its fares without 
regulatory restraint, that is, to adopt the essentially nonregulated environment 
that existed within California prior to 1965. This too would be undesirable to 
the aircraft and engine manufacturers (unless they quickly develop aircraft 
having appreciably lower operating costs) because large numbers of excess air- 
craft would have to be absorbed into a revamped industry emphasizing low-cost, 
high-load factor operations. High-paid and/or relatively unproductive employees 
would find them.selves unemployed as their companies went bankrupt or radically 
decreased their .sizes of operation, but many of these same employees would find 
themselves working for the large numbers of new or expanded airlines that would 
purchase existing aircraft and inaugurate service. Airline passengers preferring 
low-prices would find themselves better off as would the consumers of goods 
utilizing air transportation as a productive input. The period of adjustment 
would probably be in the order of ten years (the effective lives of some of our 
older jet aircraft), but upon its conclusion the U.S. would have an efficient, low- 
price air transportation system better able to adjust to economic fluctuations 
and operating in a way that would make the emergence of substitute services 
more difficult. The short-run "medicine" would taste terrible, but the long-run 
prognosis would be good. 

Congress has to choose between the status quo or variations of one of these 
two alternatives. The choice will not be easy because many indiwduals will 
be harmed and many others benefited regardless of the choice. 



485 



ONE-WAY COACH PRICES ' FOR DALLAS-HOUSTON AND DALLAS-SAN ANTONIO SERVICE 

SOUTHWEST AIRLINES, BRANIFF AIRWAYS, AND TEXAS INTERNATIONAL AIRLINES 

JUNE 1971-DECEMBER 1974 











One-way coach price 








Dallas-Houston (222 mil 


es) 


Dallas-San Antonio (253 miles) 




Day 




Night 


Day 




Night 


Effective date 


SW 


BNTT 


SW 


BNTT 


SW 


BN 


SW BN 


1971: 

Junel 

June 18. 


---- 


$27 __. 
= 20 ... 

20 
20 
26 
26 

»27 
27 
■0 27/13 
12 27/13 
27/13 
•6 27/13 
17 28/15 

.30/15 

31 


3 $10 
10 
10 

8 13 

13 
13 
13 
13 
13 
13 

8 15 

15 

=3 15 . 

15 . 


""Vio.'oo' 

""13.00" 

13.00 

13.00 

18 14. 99 

14.99 


$20" 2 20'. 

20 20 

5 26 20 

26 26 

7 26/13 26 

26/13 » 28 
13 28 
13 28 
13 28 
13 H 28/13 
13 28/13 
15 i» 29/15 

15 21 31/15 

22 25/15 31 

25/15 32 




1972: 
May (na) 


20 


4 $10 

10 
10 


July9.. 

July 17/21 


526 
26 


Oct. 30 

1973: 

Jan. 5 

Jan. 22 _.. 

Feb. 1 

Apr.2 

May 21 


.... '26/13 

26/13 

.... 26/13 

13 

.... 7 26/13 

26/13 


8 13 

13 
13 
13 
13 
13 


Sept. 24 

Dec. 1. 


.-_ 26/13 
'9 28/15 


13 


1974: 

Apr. 16 

Oct. 1 

Nov. 15 


.... 28/15 
.... "25/15 
.... 25/15 


15 

23 15 

15 



1 Jet coach/economy/1-class fare plus 8 percent Federal transportation tax. 

2 This and the subsequent prices in this column to Oct. 30, 1972, were available to intrastate passengers only. Interstate 
passengers continued to pay the price specified above. Effective Oct. 30, the highest price listed in each entry applied to 
interstate as well as intrastate passengers. 

3 Applicable to 1 northbound and 1 southbound flight departing after 9 p.m. on weekdays and Sundays. 

< Applicable to 1 northbound flight departing after 9 p.m. on Fridays and 1 southbound flight departing after 9 p.m. on 
weekdays and Sundays. 

s $50 round-trip price. $225 commuter club card introduced providing unlimited transportation for a 30-day period. 

' Available to intrastate passengers on a daily Braniff weekday flight departing Dallas at 7 :30 p.m. and returning from 
Hobby Airport in Houston at 9 p.m. 

'$26 on weekday flights prior to 8 p.m. $13 on Saturday and Sunday flights with a $25 round-trip price. 

8 Applicable to flights departing on or after 8 p.m. 

' The CAB authorized a 2.7 percent across-the-board fare Increase effective Sept. 5, 1972, and this price was a delayed 
response to that action. Texas International adopted this price for Intrastate passengers on Jan. 11, 1973. 

1° Braniff: to/from Houston Intercontinental Airport $27, to/from Hobby Airport $13 with $25 round-trip price. Texas 
International; t